Home repossessions might signal bad news for homeowners, but for investors it can be a ripe opportunity to snap up discounted property. Mollie McGuigan reports.
After a tumultuous 18 months, the Australian economy is bouncing back like no one expected, with better-than-forecasted employment figures and rising house prices. Investors and homeowners can breathe a sigh of relief. Or can they?
Low interest rates have been a double-edged sword – while one person might have enjoyed increased cash flow over the last few months, others have struggled under a mountain of debt.
The result, for the latter, has often meant mortgage arrears, defaults and at the very end, repossession.
This isn’t just the curse of the over-mortgaged first homebuyers either. According to David Carroll of Fitch Ratings Australia, over-capitalised investors have been a common victim too. “First homebuyers make up a high percentage [of those in arrears] but I don’t think they are the main drivers – it’s those that are highly leveraged, such as investors,” he says. “There may be first homeowners [defaulting] but it’s too early to tell what’s going to happen because they’ve been in a very low interest rate environment. The real issue will come out in the next year when we find out if the interest rates rise.”
It’s bad news for those who have over-capitalised but it could signal a good opportunity for comfortable investors. Repossessed properties – sold by the bank, usually at auction – can be as much as 20% cheaper. According to Fitch Ratings’ Australian Mortgage Performance survey, Sydney has been worst affected by delinquencies and Carroll forecasts that other areas in the country will be affected later this year – although he won’t be drawn on where.
“Arrears have been tracking lower over 2009,” says Carroll. “One of the key drivers for the index is unemployment and that has been dropping. However, a driver for growth in arrears might be rising interest rates. I think there will be further arrears across Australia and places where there have been significant first-time buyers.”
John Kovacs of NMD Data, which specialises in selling repossession and deceased estate property, thinks areas such as Bankstown, Fairfield and Merrylands in NSW are likely to record high repossessions over the next year. “For the last three years, we’ve had a regular amount of repossessions from there,” he says. “It’s the mortgage belt of Sydney and I think a lot of those people have struggled with their finances.” Nationally, Kovacs thinks areas with high rates of first homebuyers and highly leveraged investors are likely to fall victim to repossessions.
This is echoed by Carroll. According to Fitch Ratings’ analysis of Australian mortgage performance by postcode, regions in Sydney are the worst affected areas in the country, as affordability issues and rising interest rates push highly geared borrowers beyond their means.
“The common feature with high arrears is they’ve been in areas where unemployment has been higher and income lower, such as suburbs outside major cities in Australia,” says Carroll. “One of the key drivers for arrears, defaults and repossessions is loan to value ratio and once you get to above 80%, the payments are higher and there’s less equity in your house to fight for.” Carroll says the reason for Sydney’s poor performance has been due to NSW’s lagging economy and higher unemployment.
NMD Data has around 500 repossession properties throughout Australia for sale on its site at any one time, which can only be viewed by members of the site. “Last year, because of the GFC we saw a massive increase in mortgagee repossessions,” Kovacs says. “Since the government introduced the stimulus package we’ve noticed a dramatic change and things are back to normal again, but the concerns are that as the interest rates rise, there could be a lot of repossession.”
Why invest in distressed properties?
If you’re wondering why anyone would want to invest in a property that has forced a previous owner to default on their mortgage, the answer, simply, is the discount. “At this present moment, 10–20% less market value is achievable on repossession homes,” says Kovacs. “They provide a more affordable way to enter the market and they may only require minor repairs or renovations. And renovations are likely since the majority of repossession homes are left rundown by struggling owners and the non-property-minded banks.
“It’s absolutely crucial for any investor wanting to buy a mortgagee repossession that they have all their finances in order,” says Kovacs. “They should be budget-conscious and find out all the costs involved, such as land tax and stamp duty and know your limits. You don’t want to pay too much – research is the key to find out exactly what the property is worth.”
Paul Giezekamp of Property Secrets who – among other services – helps investors buy repossessed property, says investors must treat a repossession property like any other. “[Buyers] need to know the value of the area, the value of the street and the cost of the renovations,” he says. “They need to do the numbers to see if it’s worthwhile and they need to know what rent it could achieve before going in there [to the auction].”
Do they stack up?
Providing the numbers add up, investing in repossessions could prove a fruitful move. “Investors should definitely be keeping an eye out for repossessions coming onto the market,” says Jan Malmstrom of LJ Hooker.
“They’re usually vacant possession which means no delays in tenanting the property and are generally competitively priced in the market.”
On another positive note, Martin North of Fujitsu Australia, who publishes a regular report on the mortgage industry with JPMorgan, says that unlike the US, which has seen wave upon wave of repossessions leaving run-down ghost towns in its wake, Australia’s market has picked itself up again.
“Chances are we’re going to continue to see an undersupply of property in Australia,” he says. “We have a deeply rooted problem where there isn’t enough property and a rising population. If you are an investor who is well-capitalised and can afford to borrow – even if rates went up by 3% from where they are today and that isn’t going to create a problem for you – I don’t think [investing in repossessions] is a bad strategy.”
Financing repossession homes is similar to any other purchase, but you should ensure that the property is in a livable condition since lenders won’t take security over properties that are not habitable.
“There is a perception that mortgagee sales are a great opportunity to pick up a property cheaply because the mortgagee needs to sell the property,” says Michelle Coleman of WHO Finance. “This can be fruitful for some investors but without the proper research can also trap investors into thinking they’re getting a bargain.”
However, financial rewards aside, there is a stigma attached to buying repossession. John Kovacs’ clients refuse to talk publicly about investing in repossessions, fearing they will be judged insensitive and unethical. Paul Giezekamp says the same of his clients but thinks it is unfounded. “If I don’t go and buy it, or my company doesn’t buy it, then someone else will turn up to buy it,” he says. “Possibly there is an ethical issue with the bank – they should never have offered the loan if the borrowers couldn’t afford it.”
Kovacs thinks investing in repossessions can have a positive effect on a market. “It’s a sensitive and controversial issue but the thing I keep stressing is what impact these mortgagee repossessions have on property prices,” he says. “The more mortgagee sales you have in an area, the quicker property prices fall and it has a ripple effect on other suburbs. We do need to sell these properties as quickly as possible at the best price – I wouldn’t like to wake up one morning and find that my property price has fallen by 20% because of mortgagee sales in my area.”
Like in the US, there are three stages in the Australian repossession cycle. Firstly, the owner defaults on the mortgage and the property is sold by the owner with consent of the mortgagee. Secondly, the owner voluntarily surrenders, again in default, and hands over the keys to the mortgagee. Finally, if the property isn’t sold, it’s formally repossessed by the bank and sold.