Buying A Power Of Sale Property

By Valeri Khromov

In the real estate investment community there is a lot of talk about finding “a deal”. Although it’s always possible to win in a lottery or inherit a large amount of money, it rarely happens. The real deal is normally not found but created. One of the ways to create a good deal is to buy a distressed property for a discounted price, and then put in some expertise, time and effort to drive the property value up.

My partner and I are both full-time real estate investors. We’ve been through many seminars, courses and workshops and have built our own property acquisition and management system to expand and maintain our portfolio of single family and multi-family properties.

Part of our strategy has been to work on distressed multi-family properties which are often mismanaged, found non-compliant with regulations, and require some work but have potential and a discounted price up front in return.

It’s important to understand that in most cases there are some fundamental reasons why a property went sideways and is discounted. It means that owner didn’t do a good job either maintaining the property or managing the tenants. Or, in most cases, both, as they are interrelated. If an owner had bad tenants who didn’t pay their rent, that would leave the owner with no funds to maintain the property and vice versa.

A great way to obtain a “great deal”, and one I’ve used personally, is buying a Power of Sale property.

“Power of Sale” means that a property is sold not by the actual owner but by a mortgage holder who has obtained the right to sell a property, usually due to non-payment of the mortgage.

Most mortgage agreements nowadays have a special clause inside allowing mortgage holder to sell subject property under Power Of Sale if an owner is in default. That saves a lot of time, effort and money for the mortgage holder.

I have followed all the major real estate markets in Southern Ontario for years, have crunched through over a hundred multifamily properties, and have used my own statistics to track trends and local price ranges.

I found a Power of Sale 12 unit building that was obviously well below market value. The building was about 200K below fair market value as per what I knew.

Most of my fellow investors think that a Power of Sale is not a good deal as it is hard to negotiate with banks. That’s definitely true, but it all depends. It’s often forgotten that along with big lenders and banks there are a lot of small private lenders that may foreclose on a property. They are in a different ball game and are mostly looking to recover their funds and are more receptive to negotiate within reasonable means. Sometimes you’d be surprised what may drive up a building price.

That was the case in the deal I found. The first mortgagee who was selling the property under Power of Sale wasn’t in the business of owning properties and wanted to recover his funds and expenses. There was another 200K second mortgage on the property that had never kicked in. The first mortgagee was ready to sell the property for his own expenses.

In cases like that, time is of the essence. I called the selling agent, he didn’t want to represent anything, told me to drive by the property, make my own decision and get back to him, if interested.
We jumped in the car, drove two and half hours to see the building.

It seemed to be a solid building with some possible challenges, but ones we can work on. I called the selling realtor right away, booked an appointment, and got it under contract.

It may sound easy, but it wasn’t. That same day, late into the night, I was waiting for a meeting with the seller.

I was fast enough to be first in line with a few others, all of us waiting in a hallway to hear the seller’s decision. When you face such a scenario there is not too much you can do to negotiate. You are sitting with your Realtor in front of seller and it’s literally a take it or leave it scenario.

Even though I was under stress, I was able to negotiate a couple of things. I was able to convince the seller to become my private mortgagee for the property. Then we discussed terms. The building had twelve units, some of which weren’t occupied at the time and at least half of them were trouble makers. I was able to negotiate a six month mortgage payment deferral option for me.

The Seller wanted to sell it in one week but as it often happens with distressed properties the title had litigation registered on it. That had to be settled as we didn’t want to buy a property with a so called ‘clouded’ title. To clear the title it took the seller another couple of months, a court decision and another $30,000 to get paid by me. Ouch. There was a loophole in the purchase agreement that allowed the seller to cancel the deal any time before closing. Once additional unexpected expenses happened the seller offered me two options: give up with the deal, or pay an additional 30K to close the deal. I wish I had read articles on websites like https://tubac.com that discussed ways to lower closing costs. However, there wasn’t much to do in this case, and no matter what, I knew it was still a very good deal. So yes, I went ahead with it!

The seller did not present anything. I was buying a big unknown and had to trust my best judgement and experience. That meant no keys, no financials, no information on actual tenants, etc.

In my case, out of 12 units, just five were occupied. One of them wasn’t paying as there was a drug addict leaving. Another one was a girl who was placed through a local social program for drug addicts. She was needling herself all the time with her “friends”, making people call the police on a regular basis and scaring people out of the building. It took us substantial efforts to evict those tenants. We have no problem with housing drug addicts as long as they are enrolled in some sort of rehab treatment. You only have to search online for rehab centers and you’ll be directed to something like https://enterhealth.com/, so it’s not difficult to find. If they want to get better and are actively trying to do so then that’s fine, but if they are shooting up in the units, scaring other people and not paying their rent then that’s when we have a problem.

Along the way there were a whole bunch of different things to do: fix the leaking roof, install new windows, (which is easy when you know that you can get custom windows for your home) clean up the leftover needles, renovate all the vacant units, and install a new laundry room.

After 18 months of holding the property we have it fully occupied, bringing nice cash flow and low maintenance.

To summarize my experience on buying a distressed property, here is the list of risks to overcome and lessons to learn throughout the purchase and stabilization period:

• Know your market and act promptly once a deal is found
• Read your purchase contracts carefully as there could be some loopholes
• There can be substantial holding costs including higher property insurance cost
• The process can be very time consuming
• In most cases some extensive renovations because of disrepair or non compliance with regulations. For example, if your building has a pool deemed unsafe you need to correct that and get your building back on the pool safety register melbourne before it can be used.
• The inability to do proper due diligence: You will have to act at your own risk and discretion as, in most cases, you will have limited or restricted access to the property
• Dealing with challenging tenant profile, evictions and high tenant turn around. Rogue tenants may require removal by court bailiffs as they will stick their ground to the last moment. The worse the building condition the more likely you will have unruly tenants on your backs. They may even try to withhold rent until essential repairs are made.
• Financing difficulties: Due to high vacancies, you may end up dealing with private lenders. That requires a higher interest rate to be paid, and most of the lenders want to see at least 12 months of solid financials. Be realistic about your expectations. It may easily take two years or more to get the financing you desire.
• There is high risk that the deal may not close if the previous owner bring in the money he/she owes
• There is a possibility of clouds on the title

The risks may seriously impact the outcome from a distressed property. If you have enough expertise and substantial money in the buy, it could be the home run you are looking for.

Valeri Khromov is a full time real estate investor with over 7 years of experience managing multi-million dollar portfolio. He started with investments into single family houses and gradually moved into multifamily properties. Valeri has strong system to find, evaluate and manage challenging projects to generate forced appreciation and built portfolio of well cash flowing properties.