CHAPTER 7

How to Invest in the Redemption Period Stage

In the previous chapter, we discussed how to invest in the second stage of the four stages of the foreclosure process, which is the auction or trustee sale stage. In this chapter, you’ll learn how to invest in the third stage of the foreclosure process, which is the redemption period stage. We’ll examine what types of opportunities are available during the redemption period, how to locate houses that are in the redemption period; and, finally, both the advantages and disadvantages of buying properties during the redemption period.

Ten Steps to Investing in the Redemption Period Stage

To successfully purchase houses in the redemption period stage, there are 10 steps that are essential for investors to master (see Figure 7.1). Buying houses in this stage necessitates that an astute investor first locate and identify opportunities and then negotiate with the defaulting borrower the assignment of his or her redemption rights in exchange for valuable consideration. The investor must also be able to obtain suitable financing to replace the existing debt obligation in order to make the previous lender whole. Restitution is achieved by the total and complete repayment of all debt incurred throughout the foreclosure process. The 10 steps presented here are only in summary format and provide a general outline for the steps required to purchase houses in the redemption period stage.

Figure 7.1. Ten steps to investing in the redemption period stage.

Opportunities in the Redemption Period Stage

The third stage of the foreclosure process is referred to as the redemption period. It is in this stage that the ownership rights of the property have been transferred to the successful bidder at the auction sale. In most instances, this is the bank or mortgage company that brought about the foreclosure action. Although the lending institution now technically owns the property, it may be limited by a state-mandated redemption period that gives the defaulting borrowers the opportunity to redeem themselves. In other words, if the borrowers can come up with the full amount of money owed to the lender, they have the legal right to redeem the property by purchasing it back from the lender. This includes charges assessed for late fees; attorney’s fees; court costs; past-due interest; taxes; insurance; and, of course, the outstanding loan balance. The length of time allowed for redemption varies not only by state, but also by any number of other conditions that may be imposed by the state. For example, the type of property, the size of the parcel it is on, and whether or not it has been abandoned are all factors that may affect the time allowed to redeem one’s property. Following is an excerpt from the state legislative council that governs foreclosure law in Michigan.

STATE HOUSING DEVELOPMENT AUTHORITY ACT OF 1966 (EXCERPT) LEGISLATIVE COUNCIL STATE OF MICHIGAN

Act 346 of 1966

125. 1449j Redemption of premises.

Sec. 49j.

(2) In the case of a mortgage executed on commercial or industrial property, or multifamily residential property in excess of 4 units, the redemption period is 6 months from the time of the sale.

(3) In the case of a mortgage executed on residential property not exceeding 4 units and not more than 3 acres in size, if the amount claimed to be due on the mortgage at the date of the notice of foreclosure is more than 66²/3% of the original indebtedness secured by the mortgage, the redemption period is 6 months.

(4) In the case of a mortgage on residential property not exceeding 4 units and not more than 3 acres in size, if the property is abandoned as determined pursuant to section 49k, the redemption period is 3 months.

(5) In the case of any mortgage on residential property not exceeding 4 units and not more than 3 acres in size, if the amount claimed to be due on the mortgage at the date of the notice of foreclosure is more than 66²/3% of the original indebtedness secured by the mortgage and the property is abandoned as determined pursuant to section 49k, the redemption period is 1 month.

(6) If the property is abandoned as determined pursuant to section 49v, the redemption period is 30 days.

(7) In any other case not otherwise described in this section, the redemption period is 1 year from the date of the sale.

History: Add. 1981, Act 173, Imd. Eff. Dec. 10, 1981 ;—Am. 1993, Act 221, Imd. Eff. Oct. 29, 1993.

Borrower’s Ability to Redeem

The defaulting parties are seldom able to come up with the funds required to purchase the property back. It is unlikely they would have defaulted if they had the money to buy the house. It is possible, however, that a homeowner may have suffered a temporary financial hardship such as being laid off from work and was then later called back to work. In a situation such as this, it is possible that the defaulting homeowner could refinance the property for enough to cover all outstanding charges and make the original lender whole. Whether or not your state has a redemption period will depend on whether or not it is a title theory or lien theory state. Whereas most title theory states do not have mandatory redemption periods, most lien theory states do. The redemption period can range anywhere from a few days to a few months and even as long as one year. During this time, the new owner is unable to sell the property until the stipulated redemption period expires. This means that if you were the successful bidder at an auction sale, you would be required to hold the property until the redemption period was over. You could, however, list the property for sale and begin marketing it prior to expiration of the period. You could even execute a sales contract with another buyer provided that the agreement contains a provision that is contingent upon the previous owner not exercising his or her redemption rights.

Assignment of Borrower’s Redemption Rights

The question naturally arises, How exactly does an individual go about buying a house in this stage? If the lender bought the property at auction and the defaulting borrower has a period of time stipulated by the state to redeem it, how can an investor possibly buy the property? The answer lies in the defaulting borrower’s redemption rights. Just as an option gives an investor the right to purchase property at a predetermined price, so does the redemption period give the borrower the right to buy back his or her property at a predetermined price. Furthermore, just as the rights granted in an option agreement can be sold or assigned, so can the rights granted in a redemption period be sold or assigned. In other words, the defaulting borrower can sell or assign the redemption rights to another person or party.

Let’s look at an example. Suppose the defaulting borrower is still living in the house. As an investor interested in obtaining the rights to the property, you can offer to pay him or her any amount on which you agree. For example, you may agree to give the borrower $2,000 to vacate the property and assign the right to redeem it over to you. The amount of money offered will in part be determined by how much time remains in the redemption period. If the defaulting borrower can continue to live in the house for another three months rent free, you may need to be prepared to cough up a little more cash. On the other hand, if the redemption period is just about to expire and the borrower is going to have to move out anyway, then you can probably get by with giving him or her a little less. Either way the objective remains the same—get the buyer to assign his or her rights over to you.

The process of buying redemption rights is very similar to purchasing an option on a property. An option grants a buyer the right to purchase property for a predetermined amount of money over a specific period of time. If the buyer does not exercise the right to purchase the property within the stipulated time period, then the option expires worthless. Redemption rights grant similar rights to the party who holds them. If the rights are not exercised within the stated period of time, like the option, they expire worthless. Be aware that in some states, redemption rights are not assignable, so the borrower may not be able to sell or assign them. You may be able to circumvent this, however, by bringing the loan current for the borrower and having an agreement in place whereby the borrower immediately quitclaims the deed to you upon doing so. In other words, you can provide the funds necessary to satisfy the obligation to the lender, and after doing so, the original defaulting borrower can then sell the property to you and transfer his or her rights in it by using a quitclaim deed.

How to Find Properties in the Redemption Period Stage

There are several ways to identify and locate properties that are in the redemption period. Recall in the pre-foreclosure stage the legal instruments that are filed in the county courthouse referred to as the notice of default and the lis pendens. Depending on the state the property is located in, one of these two instruments is filed to give notice to the public that a suit is pending and that legal action is being brought against the defaulting borrower. A hearing is scheduled for the impending suit, and unless the matter is resolved, public notice is given once again and the property is eventually sold to the highest bidder at the auction sale. In each of these stages, the public is always kept apprised of the property’s status through various public declarations. When a property is sold to the highest bidder at an auction sale, it becomes a matter of public record. In states having a redemption period, the clock starts ticking the day the property is sold. So, for example, in a state that has a six-month right-of-redemption period, an investor would have a full six months from the date of the auction sale either to procure another buyer for it or to obtain financing sufficient to clear the debt owed to the lender. Because the sale of property at an auction is recorded and made a matter of public record, the information can be obtained by anyone. To obtain a copy of these records, you can do the research at the courthouse yourself, or subscribe to a newspaper that publishes legal notices or an online service specializing in providing this type of information. In addition, many counties now make these documents available online. The format in which public records are available will vary from county to county, so you will have to do a little bit of research on your own to find out who provides this information in the format that fits your needs. If you don’t have the time to spend at the county courthouse researching public records, I suggest subscribing to a service that will provide this information for you. The more rapidly you can act on the data provided, the more time you will have either to find another buyer or to obtain financing for it. This is especially important in states that have shorter redemption periods.

Advantages of Investing in the Redemption Period Stage

One advantage of purchasing real estate during the redemption period is that many investors are not aware that redemption rights can be purchased during this period. They are instead waiting for the redemption period to expire so they can purchase the property from the lender after it does. This means less competition for you because there aren’t many others going after foreclosed properties during this stage. Investors are unaware of the opportunity to purchase redemption rights from defaulting borrowers largely because the laws regarding this practice vary widely from state to state and also because of a lack of information published about the topic. I recommend researching the topic in your particular area to determine what the laws are and how they may affect your ability to employ this strategy. You can do this by typing in a search string such as “foreclosure redemption law Ohio” into any major search engine on the Internet or by seeking the counsel of a real estate attorney in the area in which you are investing. I suggest starting with a search engine, though, because you may be able to find the applicable laws without having to incur the expense of an attorney.

Investment Flexibility

Another advantage of buying houses during the redemption period is that it provides investors with ample time to make decisions regarding the property, thereby giving them greater flexibility. To begin with, as an investor you have time to inspect the property thoroughly to ensure that it is in acceptable condition. Furthermore, you have ample time to arrange new financing for the house should you decide to purchase it. You may not want to purchase the house, however, but instead find another buyer for it. This strategy enables you to transfer the property from the lender to the new buyer without having to obtain a loan for it yourself. This method works especially well in states having long redemption periods such as six months or one year. The more time granted under the law, the more time you have to market and sell the property.

Here’s how it works. If the defaulting borrower is contacted in the first month of the redemption period in a state that grants six months, the investor could negotiate for, let us say $2,500, the right to redeem the property from the lender. In other words, the defaulting borrower would assign his rights to the investor in exchange for valuable consideration of $2,500. The investor would then have the five months remaining in the redemption period to redeem the loan fully to the lender. The investor has three choices at her disposal. First, she could market the property during the remaining five months and find another buyer for it. The new buyer would then be responsible for obtaining financing for the house, relieving the investor of that responsibility. Second, she could obtain her own financing for the house and then do a fix and flip, or hold it as a rental property. Third, the investor could allow the redemption rights assigned to her to expire without taking any action at all. At the end of the six-month period, the lender would then be responsible for disposing of the property and the money spent for the redemption rights would be forfeited. This is much the same as allowing an option to expire without taking action.

Minimal Risk Exposure

Another advantage of buying a defaulting borrower’s redemption rights is that an investor’s risk exposure is minimal. By purchasing the previous homeowner’s rights to redeem the loan, an investor’s risk is limited to the extent to which he has made a commitment. For example, if the investor has purchased the seller’s rights for $1,000 but has not yet obtained a new loan, then his risk is limited to the $1,000 paid for the assignment of rights. The investor’s risk exposure is limited to this amount until such time new financing is obtained. Once a new loan is procured, the investor’s risk is similar to that of owning most other types of real estate. If the redemption period expires and the investor has not yet found another buyer or obtained new financing, then the rights expire worthless, much the same as they would when purchasing an option.

Use Existing Financing to Save Money and Avoid Qualifying

Another advantage of buying a defaulting borrower’s redemption rights is that you are not required to obtain new financing, at least not initially anyway. So, in addition to minimizing your risk exposure, you can also gain control of the property without having to go through the sometimes difficult and inconvenient process of getting a new loan. This can save you thousands of dollars in loan fees and other transaction costs, as well as reduce the amount of time normally required to process new financing. Remember, too, that because no new loan is required there are no credit checks to be concerned about. It really doesn’t matter if your credit is good, bad, or nonexistent. The advantage of not having to obtain new financing assumes that the investor will find another buyer to flip the property to before the redemption rights expire. The investor will otherwise be left with no choice but to obtain a new loan or allow the rights to expire without having redeemed the property.

Minimal Down Payment

Finally, another advantage of purchasing a defaulting borrower’s rights in the redemption period stage is the ability to acquire them with a minimal outlay of cash. If the seller has no intention of exercising her redemption rights, she has nothing to lose by selling them to you and everything to gain. If the defaulting borrower is still living in the house, you may want to consider giving her enough cash for moving expenses and the next month’s rent at her new place of residence. Generally this amount will range from $1,000 to $2,500. By doing this, you are helping to solve part of the problem, finding suitable housing in which to live. Under no circumstances should you allow the seller to continue living in the house because you may find yourself with a tenant who can’t afford to pay the rent.

Disadvantages of Investing in the Redemption Period Stage

The primary disadvantage of investing in properties that are in the redemption period stage is the homeowner’s ability to continue occupying the premises. It is possible, for example, that a house may still be occupied by the defaulting borrower, who essentially gets to live in the house rent free. As previously mentioned, this can be up to a full year in some states. That’s a pretty good deal for the person or persons living there, and depending on how much time they are allowed under the state-mandated redemption rights, they may not be in any hurry to leave. This can potentially work to your disadvantage because the longer the borrower is allowed to stay, the more it can cost you to get him out. For example, if an individual still has six months remaining under the law, it may be possible for him to continue occupying the property for the duration of the period. If an investor wants the individual out right away, the investor will need to be prepared to cough up enough money to compensate him to live elsewhere for the same length of time. One way to overcome this, however, is to concentrate on purchasing redemption rights as they approach their expiration date. This way you know the defaulting borrower will be leaving soon anyway. If you can give the occupant just enough money to get him out a little sooner, then he may be more willing to accept your offer. The drawback to this approach, however, is that if you wait too long to purchase the redemption rights, you may lose out to another investor.

Chapter Summary

Purchasing houses in the redemption period stage requires that investors start by locating and identifying opportunities and then negotiate with the defaulting borrower for the assignment of their redemption rights in exchange for valuable consideration. The investor must also be able to obtain financing to replace the existing debt obligation in order to make the previous lender whole. Only after the complete repayment of all debt incurred throughout the foreclosure process is total restitution achieved. For those investors who are willing to learn about the laws as they specifically apply to redemption rights in the area in which they are investing, the potential rewards can be very lucrative.