Buying real estate at an auction is exciting, and there’s a good chance you can get yourself a great deal if you’re the winning bidder. However, when you’re bidding on a property, don’t forget to take the buyer’s premium into account. It’s money you will owe if you win the bid.
The buyer's premium is a certain percentage of the winning bid amount.
Buyer’s Premium vs. Real Estate Commission
When you purchase property using a real estate agent, you expect to pay a commission. When you win the bid at a real estate auction, you don’t pay a real estate commission per se, but the buyer’s premium serves much the same purpose. The buyer’s premium is a percentage of the winning bid and is tacked on to the final purchase price. The percentage is not a surprise, however. While the percentage varies depending on the sale’s terms and conditions, it is always announced prior to the beginning of the auction.
If the buyer’s premium is 10 percent and your winning bid is $200,000, for example, you’ll pay a $20,000 premium for a total of $220,000. At the auction, the entire amount is known as the “hammer price” because the auctioneer pounds the hammer to indicate that the property is sold to the highest bidder.
Buyer’s Premium and Auction Seller’s Premium
The buyer’s premium does not go to the seller of the property. Instead, the funds are paid to the auction house conducting the sale. The seller of the property will also pay a commission to the auction house. The buyer’s premium is a commission, but part of it also goes toward paying the administrative costs of the auction. Those costs include advertising the sale, paying staff and/or hiring temporary workers, creating the auction catalog and any building rental fees.
Considerations for Financing
If you’re planning to bid at a real estate auction, you must arrange financing beforehand unless you can pay cash for the property. That means you must take the buyer’s premium amount into account when determining the amount of the loan needed. If $250,000 is the most you will bid for a property, you must borrow at least $275,000 to pay a 10 percent buyer’s premium. If $250,000 is the most you can borrow, then your maximum bid can’t exceed approximately $227,000.
Real Estate vs. Art Auctions
While a buyer’s premium is standard in all types of auctions, the percentage is generally lower for real estate auctions than those conducted by art auction houses. Major art auction houses may charge as much as 25 percent as a buyer’s premium.
Other Auction Terms to Know
If you’re a real estate auction novice, there are other important terms to know. These include "earnest money," which is a deposit of between 10 and 20 percent of the hammer price. If your winning bid is $200,000 and your buyer’s premium is $20,000, that means your earnest money ranges between $22,000 and $44,000. That earnest money is deposited into an escrow account by the auction house. If you don’t have your financing in order before bidding, the earnest money is subject to forfeit if you cannot obtain a real estate loan.
Before bidding on a house or other real estate parcel, check the terms and conditions carefully. Real estate is usually sold in “as is, where is” condition, which means there is no obligation for the seller to make any repairs. This is generally not the case when buying a home conventionally. It also means you may have problems finding a lender to offer financing, since standard loans aren’t made on houses with habitability issues. That’s why performing your due diligence is critical before bidding at a real estate auction.