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REO: CNBC Explains

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REO is one of those terms that you hear a lot lately but can't quite place. And for people of a certain age, it calls to mind a certain 1970 and 80s rock band. Alas, that's not the REO of which we speak. So what is an REO? CNBC explains.

What is an REO?

REO stands for Real Estate Owned. It is actually short for Other Real Estate Owned (OREO), but that may have been too confusing with the cookie. Unfortunately, there is nothing sweet about an REO, which is when a home is repossessed by its mortgage lender (a bank, government agency or government mortgage insurer, like the FHA or VA).

How does a home become REO?

While the foreclosure process varies state to state, generally, after the borrower has ceased paying the mortgage and been served notice of foreclosure by the lender, the home will be put up for auction.

The auction is usually run by the county sheriff's department or by a private auction company. Anyone can bid for the property at auction, but typically the lender will set a minimum bid (price) at the auction for at least the amount of the unpaid balance of the mortgage. If there are no bidders, the lender will repossess the property. As soon as it is taken back, the lender then has to list it on its books as REO. It is a non-performing asset.

Why has the term REO become so common lately?

After the real estate bubble in the middle of the last decade, housing crashed badly. That caused a recession, which in turn caused a lot of people to lose their jobs.

This caused them to be unable to pay their mortgages. Also, there were many different mortgage products offered during the housing bubble that had adjustable rates. Those rates adjusted higher for many borrowers, and in turn those borrowers could not make their monthly payments either. Millions of loans went into default, and a large number of them ended up in foreclosure.

The banks repossessed millions of homes, listing them as REOs.

Today, as investors look to buy these homes and turn them into rentals, the term REO-to-rent has become quite common. It is not known exactly how many more bank-owned homes will come to the market, as banks have been doing more aggressive loan modifications and other foreclosure alternatives, but the numbers will likely be high until the end of this decade.

What is bulk REO?

Bulk REO is when a lender has so many repossessed properties that it decides to sell them in bulk to investors.The government-sponsored agencies, Fannie Mae and Freddie Mac, as well as the FHA (Federal Housing Administration) have sold REO's in bulk, as have several of the largest banks.

Investors get a slight discount on the properties by buying them in large volumes. These are generally very low-value homes that may be in a state of significant disrepair.

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