Distressed properties moving off banks’ books

Portfolios of distressed, bank-owned properties that ballooned during the Great Recession are shrinking dramatically, thanks to improving real estate values, particularly in residential development.

The amount of Other Real Estate Owned (OREO) – the term used for property that banks take back through foreclosure – leaped from about $22 million in 2009 to $79 million in 2011 at six of the seven banks headquartered in Northern Colorado, an increase of about 255 percent, according to the Federal Deposit Insurance Corp.

Greeley-based FirstFarm Bank, an agricultural lender, is excluded from this list because its agriculture-heavy portfolio of real estate loans wasn’t hurt by the recession and therefore doesn’t contain any OREO.

Distressed properties often are called “toxic” because they are a drag on performance. Typically banks loan money on real estate and carry the real estate as collateral on their books at a market value that is higher than the amount of the loan. When properties go into foreclosure, as they did during the Great Recession, values drop dramatically and banks must carry the properties at the lower value, which hurts earnings. If banks can sell the properties in a recovering market, as they are doing now, earnings improve and banks don’t have to set aside as much capital to offset those losses.

In 2012, after years of dragging down banks’ earnings, distressed properties held by regional banks dropped 17 percent, to $65 million, and the trend continued this year. As of June 30, those portfolios had shrunk to $49 million, a reduction of 37 percent from the peak in 2011.

“We’re certainly seeing improvement in our ability to sell distressed properties,” said Shawn Osthoff, president of Bank of Colorado. “The economy has improved to the point where you can find buyers.”

This shift began a year to 18 months ago, Osthoff said, with economic indicators and property values improving to the point where small business owners, developers and investors began shopping again.

“Time has favored the seller,” Osthoff said.

One- to four-family residential lots were among the most common properties banks took back, but the hot new housing market has turned them into desirable assets, according to Mark Bower, chief financial officer of Home State Bank.

In 2010, banks were “begging” potential buyers to look at properties, Bower said. By 2012, things began to improve. Today, though it isn’t yet common, competing offers are being made on these once-distressed properties, driving up the prices and allowing banks to recover some of the money they lost.

“It’s in the whole community’s best interest for banks to maximize what they get for OREO,” Bower said.

Even valuing property is easier now, he said.

“When you have nobody wanting it, you don’t know, really, what it’s worth,” Bower said. But with offers being made, it is easier to determine a property’s value and potential sale price.

In the past 12 months, lot values have doubled, according to Gerard Nalezny, chairman of Verus Bank of Commerce. Renewed interest in home buying and plummeting rental vacancy rates across Northern Colorado have led to new activity in residential development, and those lots have become some of the most sought-after land in the region.

“Most bank-owned lots are spoken for, or are in the process of being spoken for,” said to Eric Holsapple, executive director of Colorado State University’s Everitt Real Estate Center.

This new demand is showing up in prices. In recent months, a developed single-family lot could be acquired for $30,000 to $40,000. Once the available supply runs out, however, that price could go up by as much as 50 percent to $60,000, Holsapple said.

While developed land is bringing in premium prices, Nalezny said, raw land remains one of the hardest assets to unload, even in the 2013 economy.

Installing water and infrastructure is expensive, deterring many from purchasing raw land for development. This is beginning to change in some areas, such as north Fort Collins, because of the market’s growing hunger for developed lots, Holsapple said.

Perhaps the only asset more difficult to sell than raw land is a partially completed building, Nalezny said. Rather than simply sitting and holding value except for market fluctuations, as land does, partial buildings lose value through deterioration and vandalism, Nalezny said, and many are reluctant to take over such a property.

Fortunately for Northern Colorado, he said, there are not many of these properties in the region.

Both retail and industrial properties are making strong comebacks in value, Holsapple said.

Retail values tend to be tied to residential prices, Holsapple said. Similar market factors impact these prices, including employment and income levels. As people find jobs or get raises and get more disposable income, they both spend money at retail establishments and consider buying or upgrading their homes.

Industrial prices have also been on the rise for months, led by the oil and gas industry in Weld County, which has taken up most existing industrial space larger than 50,000 square feet.

The last commercial category to come back is office space, Holsapple said, but as businesses get back to growing and hiring, they also will need more and larger spaces to put their employees.

Molly Armbrister covers real estate, banking and health care for the Northern Colorado Business Report. She can be reached at 970-232-3139, marmbrister@ncbr.com or twitter.com/MArmbristerNCBR
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