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Friday, May 4, 2012

The Culture of Foreclosure Auctions

Posted By on Fri, May 4, 2012 at 7:45 AM

It's all about the Benjamin's, baby.
  • It's all about the Benjamin's, baby.

In this week's feature story, "The Dispossessed," several real estate investors who attended a foreclosure auction declined to give their names. Real estate investors who buy foreclosed property after all, don't have the best public reputation -- one homeowner interviewed for the story called them "vultures." To the investors, though, they are simply business people playing the market. But as in many sectors of society, all it takes is a handful of deviants to ruin the credibility for all.

Last week, two Bay Area real estate investors pleaded guilty to participating in a bid-rigging conspiracy at foreclosure auctions around Northern California, including San Francisco. These kind of crimes have popped up a lot here recently. In February, three men pleaded guilty to bid rigging in Contra Costa county. Six more in San Joaquin County since December. In November, eight more around the Bay Area. In all of these cases, the conspiracies took place for months or years between 2008 and 2012-- the years after the foreclosure crisis hit and property values appeared to bottom out.

These conspiracies played out pretty much the way you would guess: Instead of several investors driving up the prices of properties, the investors would essentially divvy up the properties beforehand and not bid against each other. What makes this practice particularly vile is that the money the investors save is money that would go to the distressed former-homeowners: The proceeds pay off the rest of the mortgage, with the surplus going into the former homeowner's pocket.

There is relevant context to the practice, though. Of the investors and Realtors who spoke with SF Weekly -- both on and off the record -- for the feature, a handful were willing to talk on background about the pervasiveness of the bid rigging culture. The following information comes from those descriptions:

Most foreclosure auction attendees are house-flippers who fix up their buys then put them back on the market -- the increased property value comes from renovations, not market shifts, and the profits are modest on a per-house basis. The real profits come from quantity, and not many investors have the stomach for that kind of grind. Consequently, the auctions draw a limited group of regulars. Naturally, the regulars turn from rivals to acquaintances over time.

Picture the scenario: Twice a week, every week, for three months, John, Mike, and Sally see each other at the auction. They all do their homework and each have a good eye for undervalued property. So twice a week, every week, for three months, John, Mike, and Harry target the same undervalued properties. One day they all bid on a $350,000 condo in SOMA. John holds out the longest, and he gets it for $475,000. Another day, a $625,000 two-story in Pacific Heights, and Sally gets it for $780,000. And so on. Eventually they realize it makes more sense to just team up, keep the prices down, and split the bigger profits on each of the properties. Why split the goods three ways at market price when you can split it three ways at foreclosure price?

When some new investor, Bill, comes along, John, Mike, and Sally approach him. They won't necessarily tell Bill to not bid. They won't necessarily invite Bill into the crew. Most likely, they'll offer Bill some money to pass on a certain property. Bill is new, and he's just been cornered by three veterans who are offering to pay him to do nothing. So Bill accepts. And now Bill is part of the conspiracy, and will be arrested along with the others, because the FBI cameras or agents were watching the whole time.

The collusion violates the Sherman Anti-Trust Act -- which outlaws monopolistic business practices -- and the maximum penalty is 10 years in prison and a $1 million fine (or as much as double the profit gained from the crime).

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Albert Samaha


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