What is a Buyer’s Premium in a Real Estate Auction?
Photo from Pexels
Originally Posted On: https://www.dohardmoney.com/what-is-a-buyers-premium-in-a-real-estate-auction/
Many new real estate investors see real estate auctions as a great way to get their portfolio started. Getting the opportunity to purchase an investment property for pennies on the dollar from what you’d pay for a home on the MLS can be tempting. Before you head off to the auction site, though, you should understand a few things about the type of auction you’ll be going to and what fees you’ll be obligated to pay. One of the most common fees is a “Buyer’s Premium,” which can trip up investors on a tight budget. So let’s go over what a buyer’s premium in a real estate auction is and whether it’s worth the extra cost.
Buyer’s premiums are fees charged by the auction house for their services in a private auction. These are typically charged as a percentage of the winning bid. The actual percentage amount is dependent on the auction house, but these usually run anywhere from 1% – 5% of the final price.
Before you write off auctions altogether, let’s talk about when you can expect to incur a buyer’s premium, as not all auctions have them. Plus, I’ll tell you my thoughts about why they might be worth the extra investment. Let’s dive in.
What is a Real Estate Auction?
A real estate auction is where one party (usually a bank) will submit multiple properties to be bid on by anyone interested. While they often send a bulk amount of homes to be auctioned off, each auction is normally for just a single property.
There are two types of auctions: public and private. Essentially the end goal and process are the same at both – anyone who wants to bid on a property can do so, and the highest bidder wins. That said, it’s important to understand which type of auction you’ll be attending, as your protections and final price can vary drastically.
A public auction is often run in a public space like the front steps of a courthouse. The properties can be bid on by anyone attending, including representatives of the bank who have listed the house for auction. It’s a little nuanced here, but essentially the bank doesn’t outright own the property just yet, so if they believe there’s a profit to be made, then they might submit bids.
The best part of public auctions is that if you win, the only amount you’re obligated to pay is the winning bid amount. There are rarely extra fees or strings attached.
The bad news with public auctions is that you’re taking on a lot of risk. In most cases, you’ll be unable to inspect the property before the auction (as the bank doesn’t own the property yet and doesn’t have the right to let you inside), and you won’t be able to acquire title insurance. Not getting title insurance means that you might be buying a 2nd or even 3rd position on a property and acquiring any debts or liens associated with the home.
In addition, there are strict payment deadlines for the winning bidder that are usually around 24 hours.
Private auctions give you a little more security than public auctions, but they’re not without their own headaches. A private auction runs the same way a public auction does, but these are usually run on private properties like hotel ballrooms or privately owned websites.
While the winning bid gets the home, there are some strings attached. Companies running private auctions will add a buyer’s premiums to their listings. These premiums will increase the price by attaching a fee based on a percentage of the winning bid. The percentage varies based on the company, but expect somewhere between 1 – 5% of the winning bid.
The good news with private auctions is that you will have the ability to protect yourself with title insurance, and you’ll have a more extended deadline to submit your final payment than you would with a public auction. This allows you to get a loan from a hard money lender or private financer if need be.
Where Does the Buyer’s Premium Go?
If you’re required to pay a buyer’s premium fee after winning an auction, don’t think that the seller is just padding their profits a little more. This premium fee is given directly to the auction house as their fee for running the auction.
In public auctions, the bank normally absorbs any agent/attorney fees or other costs associated with running an auction. Private auctions pass this onto the buyer instead.
What Sort of Properties Can I Get at a Real Estate Auction?
Quite often, real estate auctions will be for properties that are in foreclosure. Occasionally, you might find a privately owned home being put on the docket, but this is rare.
The properties up for auction can vary wildly in terms of condition, size, amenities, and so on. While it may be challenging to get information on a property that’s coming up for auction, you must try to do as much research as possible ahead of time so that you don’t get in over your head.
Are Real Estate Auctions Good for New Investors?
Auctions can be great ways to get into real estate investing if you do it right, but the amount of risk involved makes many new investors stay away. If you find a property that seems like a good fit for your portfolio and will be auctioned off soon, I’d recommend only bidding if it’s a private auction.
The issue I’ve seen inexperienced investors run into repeatedly is that they’ll win the auction by hitting their maximum bid and then have to scramble to come up with the extra costs to cover their buyer’s premiums. So is it worth the hassle?
While it’s true that you’ll need to account for the extra costs incurred with the buyer’s premium, private auctions give you so much more protection that in my opinion, it’s well worth the 5% upcharge. Public auctions might not have extra premiums tacked on, but the hassle of dealing with a dilapidated building with a couple of hidden liens can end up being way more than that $10,000 you might’ve had to pay as a premium. Once you get comfortable in the process of bidding and winning foreclosure auctions, you can move onto public auctions as you’ll have more experience with both bidding and knowing what it takes to turn a profit on an auctioned property.
You may feel that buyer’s premiums are an annoying fee that is only there to bilk you out of more money, but they have their purpose. For a few additional percentage points on your winning bid, you’ll have the chance to protect yourself from title problems and have a better payment window available. Remember that no matter if it’s a public or private auction, it’s vital that you’re as well-equipped as you can be with understanding what you’ll be bidding on and what process you can expect to go through once you win.
Have you had luck with foreclosure auctions? Leave a comment and let us know your tips!