If your bank is taking back real estate assets (REO/OREO), make sure you are aware of what you are getting….
Banks these days are busy owning more real estate than ever. But going through the process of foreclosing improved property and taking title is a small piece of the real work. The value analysis and disposition of those REO/OREO assets is the difficult part.
Once you have taken the asset back you should have a very specific checklist to follow to ensure that you understand exactly what you own – especially in the case of improved property. Knowing exactly what you have will help you better understand what the property is worth, and ultimately what price it might command on the open market.
When foreclosing improved property or unimproved land, it is important to understand the distinctions between the two. With land or lots that are fully improved (meaning all infrastructure is installed), the risks can sometimes be greater for you during the bank workout for the reasons that we will explore in this article. Vacant, unimproved property has its own set of issues (to be covered in a future article).
Fully Improved Land:
When taking back real estate assets (REO/OREO), the real risks are in the outstanding agreements and/or fees due to the municipality, and any potential environmental considerations. The aforementioned fees generally do not show up in a title commitment and cannot be insured over, even with a Special Assessments binder. Unfortunately, they could materially affect the value of the land. Foreclosing improved property that has some type of environmental problem could lead to another set of challenges. Below you will find a checklist of things to consider before you foreclose, finalize the bank workout, and take ownership of the improved property.
1. Title Insurance: This seems like an obvious piece to the puzzle, however many people take the actual policy and consider it nothing more than just insurance. Make sure to understand the items on the various schedules and how they might impact the actual value of the parcel. We suggest that you have your real estate attorney or qualified real estate expert examine the schedule “A” for accuracy and the schedule “B” for potential problems. This is your best starting point to fully understanding the property and the real estate assets (REO/OREOs). The schedule “B” is chock full of material facts regarding the property and may give you insight into why your debtor client walked away from the property.
2. Appraisal: Appraisals are not what they used to be, however they do provide insightful information and certainly help determine the value of a parcel of land. The information NOT included in the appraisal is what should concern you. For example, outstanding tax liens with penalties and interest will impact your cost basis on the property. Appraisers are also not qualified to render opinions on environmental conditions and the corresponding diminishment of value. Likewise, topography can play a big role in what it will cost to construct a new home or building on the land and will factor into an offer that a builder or contractor may make on the property. We advise all of our clients to have a qualified construction expert look at the land prior to determining what the parcel is worth.
3. Recorded Plat: Having a final recorded plat will give you many of the important details you need to adequately understand the parcel during the bank workout of the real estate assets (REO/OREOs). If it is a residential or commercial parcel, the plat will include information such as exact lot dimensions, building setbacks, zoning, easements, survey monument locations, and critical notes. Obtaining a copy of the plat can be as easy as visiting the municipality’s engineering or planning department and requesting a copy.
4. Real Estate Tax Records: If your bank is foreclosing improved property, it is a pretty safe bet to assume that the real estate taxes have not been paid. More often than not, you will find that the taxes for past years (including interest and penalties) are due. Be sure to check with the municipality’s tax assessor or the clerk regarding back taxes. If your parcel is in an unincorporated town, it is advised to also check with the county.
5. Zoning Code: Make sure you understand the actual zoning on the parcel prior to determining a value during the bank workout. Often, a parcel may have multiple zonings. It is best not to assume anything when it comes to zoning and to talk directly to the zoning official at the municipality. You may think your debtor client had the final zoning in place on the entire parcel, but that is often not the case.
6. Recorded Deed Restrictions: If recorded deed restrictions exist, they should (but don’t always) show up on the schedule “B” of the title commitment. Understanding what is in the Deed Restrictions and their potential impact will greatly affect the value of the parcel and the real estate assets (REO/OREOs). If you have assumed the declarant rights while foreclosing improved property, you may have the ability to amend the deed restrictions.
7. Environmental Conditions: Prior to foreclosing improved property we would strongly recommend you conduct, at a minimum, an environmental screening. An environmental screening can be done for a few hundred dollars (usually around $500). The environmental screening is different from a phase one environmental assessment in that the screening only searches the major environmental database for issues. We would also recommend that someone from the bank or a bank representative walk the property for visible signs of dumping or the like. If you are not comfortable walking the property, we recommend that you pay an engineering firm to walk the property as part of the screening process. Foreclosing on a property that has environmental problems may open up the door for major expenses and responsibilities associated with clean up. It is not unheard of for a debtor who may be in trouble to accept payment for dumping on a property they plan to give back to the bank.
8. Developers Agreement: Also referred to as a subdividers agreement, this is the contract between the developer and municipality that outlines what must be done for the developer to be released from obligations to the municipality. If your debtor was the property developer, this becomes a very important document to understand during the bank workout of the real estate assets (REO/OREOs). It will outline all of the contractual obligations the developer (now you) has to the municipality. The agreement will also talk about what has to be done to release letters of credit, which as the lender you have more than likely posted. There may be outstanding warranties on the infrastructure as well as other improvements that must be made before the municipality will allow any building permits to be issued. We strongly urge all of our clients to consult with the municipality’s engineer concerning the developer’s agreement as well as any outstanding issues that may be in play regarding the parcel while foreclosing improved property.
9. Impact Fees: Whether we like it or not, impact fees are a major expense on any parcel and, depending on the timing of the payments, may be outstanding on your parcel. In the state of Wisconsin, the impact fee law compels the municipality to collect impact fees at the time the building permit is pulled. If the impact fees are due at the time the building permit is issued, most customers (builders, contractors, or individuals) will factor this into their offer on the property. Impact fees in the state of Wisconsin can vary greatly so don’t assume the fees to be any specific amount. In the municipalities in which we have experience, we have seen fees differ as much as $15,000. The impact fee law has changed substantially over the last five years so if you are foreclosing improved property and obtaining real estate that was platted several years ago there may be some rights to recover impact fees that were paid up front.
10. Status of Infrastructure Installation: Don’t assume that the installation of infrastructure is complete. When dealing with a developer that is having financial trouble it is not uncommon to find they have taken short cuts in the construction of the infrastructure and real estate assets (REO/OREOs). To verify that you have adequately reserved for the cost of the remaining infrastructure, you should (a) interview the municipality’s inspecting engineer for known outstanding items, (b) analyze the contractor’s draws for unbilled items that need to be completed, and (c) work with the municipality’s staff to return any outstanding letters of credit.
Cover these ten basic items when foreclosing improved property and taking back real estate assets and you will, at the very least, protect your assets by better understanding the challenges and opportunities that exist.
The key to determining the value of REO/OREOs is to value the property as if you were a purchaser of real estate, not the owner. Examine the costs associated with owning and/or building on the property and you will be better educated on the real value.
For more information on pre-foreclosure consulting and foreclosing improved property, contact Scott B. Thistle at Provident Real Estate Services (sthistle@providentres.com ) or visit our website at www.providentres.com
Mr. Thistle is a Managing Member of Provident Real Estate Services, LLC and President of Brookstone Homes, Inc. He has 17 years experience in real estate development. Provident Real Estate Services, LLC is a real estate consulting group specializing in bank workouts and real estate disposition.
