For most of us, a home is the biggest purchase we’ll ever make in our lifetimes — and depending on where you live, the market could be incredibly competitive.
Adding foreclosed homes to your list of could-bes can expand your pool of potentials significantly, not to mention save you a hefty hunk of change.
But we’re often told you get what you pay for, which can make foreclosed homes seem scary. Why are those prices so low, anyway? And is the mortgage process any different?
Here’s how to buy a foreclosed home — and why you should seriously consider it.
So What Is Foreclosure, Anyway?
A foreclosed home is one that’s been repossessed by the bank or lending company due to the existing owner’s default on payments.
Foreclosure is the process by which a bank or mortgage company takes possession of a property to satisfy a debt unpaid by the borrower. In other words, it’s what happens when the homeowner can’t keep up with payments — kind of like having your car repossessed.
After booting the tenants, the bank offers the property for sale, usually at a steep discount, in an attempt to recoup its losses. Often, foreclosed homes are put up for sale at an auction.
Foreclosed homes are also sometimes known as REO homes, which stands for “real estate owned.” In other words, when you buy a foreclosed home, you’re not buying directly from the owners.
So what does foreclosure status mean for your could-be castle?
Well, in most cases, it means you won’t have as much knowledge about the property’s repair history or condition before you put down an offer, especially if you’re purchasing at an auction. And given that the previous owners were behind on payments, it’s totally feasible they didn’t have the cash to throw at upkeep, either — and the home may even have been standing empty for a few weeks or months.
But a foreclosure could also be in perfectly good shape or only need a little bit of elbow grease. If you take the correct steps to protect yourself, foreclosed homes certainly shouldn’t be off the table.
How to Buy a Pre-Foreclosure Property
A pre-foreclosure home is one sold by the owners directly after they’ve gotten behind on payments to avoid losing their home to foreclosure.
Sometimes, homeowners sell their property “pre-foreclosure,” which means they’ve received legal notice that the foreclosure process is about to begin.
Finding a home in pre-foreclosure status is the best of both worlds in some ways. The sellers, who are facing legal action and a serious stain on their credit report if they don’t get their loan back in good standing, are motivated, but you’ll probably still be able to see the home firsthand. (That’s not always the case with foreclosures, as we’ll see in the next two sections.)
That said, you may also be inheriting part of the unpaid loan balance, and actually finding these homes can be tricky — as is confirming that they’re actually on the market.
Ideally, you’ll want to approach the owners of a pre-foreclosure home before it’s listed for sale. That means doing some detective work.
Zillow has a filter for pre-foreclosures under “potential listings,” and you can also check your local newspaper for foreclosure notices.
You can reach out to the owners directly, or try to figure out if the property is still in default by contacting the trustee who filed the pre-foreclosure paperwork. A foreclosure specialist or real estate agent with foreclosure experience could help you.
Either way, it’s always possible that the owners will get their financial ducks in a row, meaning the home won’t be offered for sale. But if you can time it right, you can also nab a quick sale at a bargain-basement price, so it could be worth doing some sleuthing.
How to Buy a Foreclosed Home at Auction
Buying a foreclosed home in an auction is riskier because you might not get to see the home beforehand. Gather as much information as you can through public records and checking out the exterior.
If the foreclosure process does, indeed, go through, the next step for many lenders is to put the property up for auction at market value. A foreclosure auction is great for the bank or loan company, because it often results in a quick and simple sale that recoups a majority of their losses.
But buying a foreclosure at auction can be a lot scarier for the consumer, who usually doesn’t get to see the property firsthand. Properties are sold as-is, so you’re taking a pretty serious risk buying sight unseen.
Plus, in most cases, the highest bidder has to be able to pay cash for their new home… and even at foreclosure prices, that might not be financially possible for everyone.
If possible, you’ll want to have a professional home inspection to avoid paying for a heap of expensive repairs. If there’s not enough time for an inspection or the seller doesn’t allow it, you can DIY some research; ownership records, building permits, and previous inspections are often matters of public record. Your real estate agent can help you find the deets.
You can also actually drive to the property and do a “curbside inspection,” i.e., just check it out. Get out of your car and peek in the windows. If you’re bold enough, knock on the door of a neighbor and ask what they know about the home’s history.
When you’re buying sight unseen, you want all the information you can get your hands on, no matter how you come across it.
How to Buy a Foreclosed Home From a Bank
An REO home is sold as-is, but you’ll typically be able to inspect it forehand. Just be prepared for a long sales process.
Finally, you may find a foreclosed home on the market being sold directly by the bank or lending company, possibly because it didn’t sell at auction. Either way, that low price still comes with the same stipulation: The property is sold as-is, and the bank may not have in-depth records of its maintenance.
In this case, you have more time to get it professionally inspected and add up the totals of any repairs you’ll need to make before you move forward with the sale.
If anything, you might find yourself with too much time on your hands — because you’re dealing with a corporation instead of a person, the sales process can creep along at a glacial pace, even once you’ve come to an agreement.
Can You Get a Loan to Buy a Foreclosed Home?
In many cases, you’ll be able to finance a foreclosed home with a traditional mortgage. Options also exist for financing expected renovations and repairs, which many foreclosures require.
If you buy a foreclosed home at auction, you’re probably going to need the cash upfront to pay for it. The whole point of an auction is to get the deal done as quickly and — at least for the bank — as painlessly as possible.
But if you find a pre-foreclosure or REO home, your purchase could be similar to a traditional homebuying process: making mortgage payments over the course of 15 or 30 years.
So long as the home is in decent condition and your credit history is good, you may be able to find a lender that will offer you a traditional mortgage for a foreclosed home.
Pro tip: Try to get a preapproval letter before you start searching, since foreclosures tend to sell quickly thanks to their crazy low prices.
If your inspection reveals that significant repairs are necessary, you might want to look into an FHA 203(k) renovation loan. This kind of mortgage covers the purchase price plus renovations that improve the home’s value. Keep in mind that you’ll still have closing costs, just as you would with a regular purchase.
How to Buy a Foreclosed Home Without Regretting It
No matter which type of foreclosure you’re looking at, it’s important to have a professional inspection done if possible, as you may not have as much access to repair information about the house as you would in the traditional homebuying process.
You can also find real estate agents who specialize in, or at least have experience with, selling REO properties to increase your chances of success. You may want to also hire an attorney, who can review your paperwork or draft up an agreement with the homeowners of a house in pre-foreclosure.
If you’ve got luck and timing on your side, buying a foreclosure is a great way to become a homeowner at a very low cost — which means you have more room to build equity and value in your investment over time.
Jamie Cattanach’s work has been featured at Fodor’s, Yahoo, SELF, The Huffington Post, The Motley Fool, Roads & Kingdoms and other outlets. Learn more at www.jamiecattanach.com.