HUD Homes: an investment opportunity, and a highly competitive playfield in the world of real estate.
The real estate market has an unlimited number of investment opportunities that all vary depending on the type of property, your investment strategy, the amount of competition over the property, and a wide array of other different factors.
One of the most popular and highly competitive markets in the real estate business is the market for HUD homes. But what exactly is a HUD home? What are the advantages and disadvantages of considering these properties for your investment strategy? And what are the aspects related to financing them and the challenges that you might face?
Here we try our best to answer all these questions and help you gain a better understanding of this type of real estate investment properties and the opportunities that might await you in the market.
What Are HUD Homes?
HUD homes are simply homes owned by the Department of Housing and Urban Development (HUD) after getting foreclosed due to their owners not being able to pay off their FHA mortgage.
When homeowners are no longer capable of paying off their FHA mortgage, they get evicted, and the HUD pays the remaining debt on the property to the lender and acquires ownership of the property. The HUD would then try to sell the real state property at a discount, initially prioritizing owner-occupant buyers (people intending to buy the home as a primary residence). After a period of time, if the HUD fails to sell the home to owner-occupants, the real estate property becomes available to all buyers, including real estate investors.
Where Can I Find HUD Homes?
Since HUD homes are a part of a governmental program, the government has created a website that lists the available HUD homes and their details for interested buyers to look at. The website offers additional features that can help prospective property buyers and real estate investors learn more about HUD homes and the different aspects related to them through their guides and FAQs sections, further facilitating the process of purchasing a HUD home and understanding the best means to finance it.
Related: 5 Ways to Find an Investment Property
Additionally, the government has made available a number of programs related to HUD homes, offering different options that can help homebuyers and real estate investors and protect their rights to be treated fairly in the housing market and to have access to safe housing conditions.
These programs are:
Financing HUD Homes
When it comes to financing a HUD home, it should be noted that the HUD does not offer direct financing to HUD homebuyers. In order to finance a HUD home, a homebuyer must either have a sufficient amount of his/her own cash or obtain a loan through a mortgage lender.
It should also be noted, however, that obtaining a loan for a foreclosed home is typically challenging and is usually subject to certain restrictions. Since foreclosed homes usually require a large amount of renovation and repairs before they are in a ready-to-move-in state, a property buyer must be realistic about the price of the home and the costs associated with fixing it.
For this reason, a homebuyer must plan his/her finances very carefully and make sure that he/she will be able to afford the mortgage payments and the interest. This means that property buyers will need to invest some time into researching different lenders and choosing the right loan, during which time the property could be sold to a different buyer.
This makes HUD homes targets to high competition in the housing market, and if you’re to gain an advantage and be more capable of competing, it is advisable to obtain a loan pre-approval and be prepared to move fast in order to buy the property before your competition.
- 203(k) Rehabilitation Mortgage Insurance
One of the best tools used for financing a HUD home is a 203(k) Rehabilitation Mortgage Insurance. This FHA mortgage program permits a homebuyer or a homeowner to finance up to $35,000 into reparation costs through their mortgage. This gives buyers and owners the ability to easily access this cash to pay for a property’s improvements and repairs that are identified by a home inspector or an FHA appraiser. This is an excellent tool to use for real estate investors targeting HUD homes for a fix-and-flip venture, as it provides them with the extra cash to cover the costs associated with this type of investment.
HUD Homes Inspection
Another major aspect when considering buying a HUD home is tightly related to the poor state and conditions of most foreclosed homes.
Since HUD homes are mostly foreclosed homes, and most foreclosed homes were owned by people who could not afford to pay their mortgages, they are often left in poor condition and require a hefty amount of reparations in order to get them back into an inhabitable state. This means that before buying a HUD home, a prospective property buyer will typically need to get the home inspected in order to determine its condition and the amount of repairs that the home needs.
Related: Why You Should Get a Home Inspection Before Investing in Property
In addition to the property being left in a bad condition by the previous owner, foreclosed homes are often left vacant while in the ownership of the HUD, which leads them to attract outlaws, thieves, and other unwanted individuals who will often break into the house and use it for illegal activities.
One of the common illegal uses that might have taken place in a HUD home either by its previous occupant or during its vacancy period is using the property to manufacture illegal drugs such as Methamphetamine. Buying a HUD home which has been previously used as a meth lab is generally not a good idea, and it could lead to further complications upon owning the property which might leave the new owner vulnerable to legal issues.
- Due Diligence
While in some states such as Minnesota, South Dakota, and Arizona, the property seller is legally required to inform the buyer about any illegal activity that might have taken place in the property such as the production of meth, it should be noted that this is not legislation that applies to all states. So, before buying a HUD home, a property buyer should check the state’s regulations to see whether or not this law applies to the purchase.
If not, then the buyer should consider performing an indoor air quality audit which will enable him/her to know whether the home has been previously used for meth production, as the process of producing meth can leave behind toxic particles in the air which can sometimes affect the new dweller of the house.
Additionally, a homebuyer should gather as much information as possible about the property from any available sources before buying it, including neighbors and previous residents of the property, in order to determine whether the property has aspects to it that might affect the purchase or even prevent the prospective buyer from acquiring a loan to finance the purchase.
What’s the Value of Investing in HUD Homes?
The major attraction of HUD homes, or foreclosed homes in general, is the generally low price compared to the market value due to the bad condition of the home.
Related: How to Buy a Foreclosure as an Investment Property
This makes HUD homes a very attractive target for homebuyers, whether they are looking to purchase the property as a primary residence or as an investment property, leading to very high competition over the ownership of these properties by a wide range of prospective property buyers.
- Primary-Residence Homebuyers
Buyers who are looking to buy a HUD home as a primary residence will naturally have an edge over real estate investors who are looking to buy it as an investment or to make a profit. This is due to the HUD making these properties exclusively available to primary-residence buyers prior to making them available for real estate investors too, which gives homebuyers a time-window of reduced competition before the more aggressive buyers, the investors, enter the competition over these properties.
- Fix-and-Flips
HUD homes are among the best investment properties that are looked upon as gold mines by real estate investors in general and property flippers in particular. This is because the poor conditions of a HUD home perfectly match the investment criteria of fix-and-flip investors – real estate investors who hunt for investment properties that need a heavy amount of renovation to increase their market value and sell them for a profit.
These real estate investors will be the most aggressive competitors over the ownership of a HUD home, and they will typically be well prepared to make the purchase at the soonest possible opportunity and as soon as the property becomes available for real estate investors.
Investors usually have access to greater capital, making it very difficult for primary-residence homebuyers to compete with them without any previous preparations or a readily available source of financing for the purchase of the property.
- Renting Out
In addition to investors looking to buy HUD homes for a fix-and-flip investments, some real estate investors hunt for this type of properties for the purpose of renting them out. While HUD homes might not have any specific features related to them that make them particularly attractive for a rental strategy, the mere fact that they come at very attractive discounts and low prices makes them generally a target for all types of real estate investors.
Additionally, a real estate investor looking to purchase a HUD home for the sole purpose of renting it out could plan a strategy that combines primary residence with a rental property. This is due to the fact that the property will require a lot of repairs and renovation, allowing for a complete redesign of the property to make it more suitable to serve the purpose of a primary residence for the new owner, while also providing space for renting out parts of the property to tenants.
This gives investors the advantages of owning the property as a primary residence at a reduced competition, while also providing the pro of using the property as a source of income to cover the costs and expenses related to it.
Related: Renting Out Your House? How Much Should You Charge?
To Sum It Up
While HUD homes are typically associated with a negative connotation, especially following the subprime mortgage crisis which led to a dramatic spike in foreclosures in 2008, and the losses of home equity in the US, which have totaled more than $7 trillion in 2006-2012, the recovery of the housing market and the substantial decrease in losses since 2015 have led to foreclosed homes becoming among the most targeted properties across the US by homebuyers and real estate investors alike.
While there are a number of challenges that any prospective homebuyer will face when trying to purchase a HUD home, including the challenge of very high competition over the ownership of these properties, this very same competition is the biggest proof of the value of HUD homes and their attractiveness to all kinds of homebuyers and real estate investors.
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