Beware of the expensive pitfalls of buying a house at auction

Published 03rd Aug 2009

Househunters can snap up a bargain, but it is easy to slip up and lose thousands of pounds


Househunters looking for bargain properties at auction have been urged to show caution, as lenders increasingly try to change terms at the last minute, leaving bidders facing thousands of pounds of losses.

Auction houses are attracting thousands of inquisitive new buyers who have fuelled a surge in sales in recent months. Countrywide, which holds auctions across the country, says that four out of five properties are now sold on the day, compared with less than half a year ago. Other companies are also reporting brisk trading as buyers are lured by the promise of a bargain.

Houses at auction can be bought for thousands of pounds less than asking prices in high street estate agents. However, buying at auction is fraught with dangers that can leave buyers with hefty bills whether they put in a winning bid or not.

Brokers report that banks and building societies are growing more nervous about lending on properties sold at auction. David Hollingworth, of London & Country Mortgages, the broker, says: “Auction properties are more likely to be hit by downvaluations, where valuers cut what they think the property is worth. This can leave buyers scrambling to find alternative funding and can sink a mortgage application. If buyers cannot find a new deal, they face the prospect of losing their deposit.”

Successful bidders are more likely to be hit by downvaluations because it is common for borrowers to seek only an “agreement in principle”, also known as a “mortgage promise”, rather than a formal mortgage offer. Such agreements in principle merely confirms that a borrower is eligible for a loan up to a certain amount but is not tied to a specific property.

After the bid has been successful, a lender then sends a valuer to ensure that the deal can go ahead. If the property requires renovation work or has not been occupied for many years, lenders are likely to be reluctant to approve a deal.

Mr Hollingworth says: “Talk of bargains at auction is attracting a new type of inexperienced buyer, but many walk away when they realise how much is at risk, while those that proceed can get their fingers burnt.”

The alternative to an arrangement in principle is to secure a firm mortgage offer. But arranging finance in the first place is becoming increasingly difficult.

Preparation is key and experts suggest strongly that you arrange your finance in advance. David Sandeman, of Essential Information Group, which provides updates on auctions across the UK, says: “Two years ago it was easy to organise a mortgage quickly, but in today’s market buyers need to give themselves a lot more time.”

Buyers usually need to put down a 10 per cent deposit on the day of a successful bid and then have 28 days to complete the transaction. Buyers should hold at least a 25 per cent deposit, but even with a substantial chunk of cash in the bank, problems can still arise.

Typically, catalogues are released by auction houses at least 15 working days before the auction takes place, but even this may not be enough time to finalise a mortgage offer.

Brokers and homeowners complain that banks and building societies can take months to process a full applications in the current mortgage drought, and application fees and charges can mount up before you have even placed a bid. Some lenders will insist on certain fees being paid upfront. For example, Cheltenham & Gloucester places an initial charge of £99 on all mortgage applications. Buyers should look for those that require a booking or application fee to be paid only on completion.

Buyers need to make some tough choices about the highest price they are willing to pay and then apply for a mortgage based on that maximum bid. Though it is likely that your lender will reduce the size of the loan if you are the only bidder and acquire the property for a lower price than expected, it will be less inclined to extend your loan with the same courtesy if your dream property is the subject of a bidding war on auction day.

Christopher Coleman Smith, head of auctions for Savills, says: “It is impossible to predict how a property will do on the day. Some sell for double the guide price, others will only just scrape over the reserve.”

Buyers who apply for a formal mortgage offer will have to pay for a valuation by the lender before the auction takes place. Those that do not have a formal offer should engage a professional to assess the condition of the property before bidding. This adds to the costs before auction day, with no guarantee that you will be successful in your attempt to buy the property.

Mr Hollingworth says: “You can either use a mortgage lender’s valuation as a guide, seek a homebuyer’s report or a full structural survey.”

Lenders charge about £200 for a valuation and up to £1,000 for a full structural survey.

Being outbid on the day of the auction is not the only problem facing buyers. With all the difficulties of arranging finance in advance, some people may be tempted to bid on a property without a mortgage in place.

But Mr Sandeman says: “Successful bidders would be putting themselves under a huge amount of stress. Buyers need to complete the purchase within 28 days of the auction or risk losing the deposit. And if buyers cannot organise a mortgage in time, they will be forced to turn to alternative options, such as bridging finance, which are considerably more expensive.”

Bridging finance, typically from speclist providers, describes loans that are made available at very short notice to cover the period until long-term finance is secured. Buying a property with a bridging loan allows owners to make the necessary improvements to ensure that a traditional lender will provide a mortgage on the property.

However, be aware that some lenders will not remortgage a property for six months after it was first bought, though the rules vary. Accord, the specialist lender owned by Yorkshire Building Society, does not have such a minimum, while Woolwich, owned by Barclays, insists that buy-to-let investors wait a year before being allowed to remortgage.

Buyers who are forced to remain on a bridging loan for six months face heavy costs. The fees can be 1.2 per cent of the loan size and interest is then charged at 1.2 per cent a month. It is more expensive to get an open-ended loan than one that is fixed for a set period. Some lenders also levy an exit fee at the end of the term, typically another 1.2 per cent.

Most auction houses have relationships with companies that provide bridging loans. Savills works with Auction Finance, one of the largest providers, while Countrywide lends direct to customers.

Mr Sandeman adds: “Buyers need to weight up the pros and cons of paying over the odds for these loans. The reality is that, despite the punitive rates, it may still be worth it because you have saved so much on the property price.”

Property investors could also consider applying for commercial loans from a bank or building society, which are similar to bridging loans. Though the interest rates can be more favourable than those on bridging loans, the lending criteria are often far stricter.

Mark Harris, of Savills Private Finance, the broker, says: “Buyers should compare terms, in particular the fees, to consider the best option for their circumstances.”

Case study

Lutharsan Mahalingam, of Ruislip, northwest London, thought it would be easy to buy a house at auction, but says that the actual experience was “extremely stressful”. The property developer went to a Savills auction and successfully bid £209,000 for a two-bedroom bungalow in East London.

The 32-year-old had spoken to Royal Bank of Scotland a month earlier and arranged an agreement in principle to borrow £160,000. However, three weeks after he secured the house at auction the bank cancelled the agreement. A valuer sent to the property by the bank cited concerns over the house having been unoccupied for ten years.

Mr Mahalinghan was not allowed to resell the house and had only a week to find alternative funding or face losing his £16,000 deposit. He was forced to apply for a short-term commercial loan to complete the sale. He says: “You can get a great deal at auction, but it is high risk.

“I am going to renovate the property and then go back to the lender, who will hopefully allow me to take a conventional residential mortgage.”

Auction tips

Auctioneers recommend securing a formal mortgage offer before making a bid.

Buyers do not have to wait until auction day to secure a property in an auction catalogue. It is possible to approach sellers in advance and put in an offer.

Property that doesn’t sell on the day could still be available and buyers are encouraged to negotiate a deal with sellers.

The auction house is likely to charge buyers an administration fee of between £200 and £700, even if the property is sold before or after the auction date.

Source: ' Times '

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