If you’ve been keeping your eye on real estate home listings, you might’ve seen more foreclosed properties for sale at a reduced price.
With record levels of unemployment and underemployment, many homeowners are falling further behind on their mortgages. Currently, there’s a federal moratorium on the most common mortgage programs through December 31, 2020. Unless further homeowner protections are in place, the foreclosure market will see an unfortunate rise.
In fact, according to mortgage and real estate analytics company Black Knight, 2.3 million homeowners are already seriously past-due on their mortgages.
As devastating as it is to have more homes undergoing foreclosure, it also means that prospective home buyers, who were otherwise priced out of buying a home, might have greater access to homeownership. Here’s what you should know if you’re thinking about buying a foreclosed home.
Buying a foreclosed home can be a win-win situation. You get a good price, and (usually) you can easily fix the property up.
Buying a Foreclosed Home
There are many ways you can buy a foreclosed home, depending on what stage of the process the foreclosure is in:
- Pre-foreclosure. Many homeowners are willing to sell before they’ve officially been foreclosed on. Depending on how much equity they have, they might need to do a short sale.
- Short sale. Homeowners can seek approval from their lenders to sell you the home for less than they owe on the mortgage. The bank will get less than it’s owed, but it still often approves short sales since they usually cost less than a foreclosure.
- Auction. Once a home is foreclosed it’ll often be auctioned off by the bank. But you’ll need cash on hand for this, and that’s not an option for most folks who need mortgage financing.
- Real-estate owned (REO) properties. Alternatively, banks can simply sell the foreclosed home through more traditional markets, just like a normal home.
It’s usually easiest to buy the foreclosed home once the bank takes over and it becomes an REO property. That’s because you can take your time and go through the mortgage underwriting process. You can also work with a realtor, and — importantly — write contingency clauses in the contract that let you pull out of the deal if a home inspection reveals more repairs than you expected.
7 Caveats to Buying a Foreclosed Home
Buying a foreclosed home isn’t exactly the same as buying one directly from the homeowner. You’re potentially buying a home from a bank who took over after the previous homeowners were unable to afford the home anymore. This introduces a few twists into the home-buying process for you.
1. You’ll Need a Realtor Who Specializes in Foreclosed Homes
The world is full of realtors, even including your Uncle Bob and Cousin Carolyn. But not everyone is equipped to handle the nuances of buying a foreclosed home. There are a lot of issues that can crop up — unplanned property damage, squatters, homeowners who settle the bill and try to reclaim ownership, etc.
If you’re serious about buying a foreclosed home, seek out a realtor with extra experience in this area. There are even special designations that some realtors can get, such as Short Sales and Foreclosure Resource (SFR) or Certified Distressed Property Expert (CDPE).
2. Houses Are Sold “As-Is”
With a typical home sale, you have the change to get the property professionally inspected before signing on the dotted line. It’s not uncommon for new issues to arise, and in a normal home buying transaction, you can often negotiate with the sellers to either fix the damage or discount the price.
That’s not the case when you buy a foreclosed home. If a home inspection reveals unexpected damage — like the need for a full roof or a septic system replacement — banks often aren’t willing to negotiate. It’s a take-it-or-leave-it sale.
3. Expect to Put In Some Work
The above point is especially important considering that most foreclosed homes do, in fact, need a lot of fixing up.
Think about it: the previous homeowners lost the house because they couldn’t afford the mortgage. There’s a good chance they also weren’t able to keep up with routine maintenance either. From their perspective, even if they did have the cash, what’s the point of spending money on repairs, if they know they’ll lose the home in a few months?
You can save money by putting in some sweat equity (HGTV, anyone?), but even then you’ll need the cash to pay for materials. This also means that the home might not be move-in ready. If you do move in, you might need to put up with construction debris for a little while. On the bright side, though, this does give you a chance to upgrade the home to your own aesthetics.
4. You Might Need Creative Financing
This brings up another issue: how do you pay for those renovations? Generally, you can’t just ask for a bigger mortgage to cover the necessary repairs. Most lenders will only lend you as much as the current home appraisal is worth, minus your down payment.
You have a few options, though. You can hold some money back from your savings to pay for it in cash, but this means you’ll have a smaller down payment. An alternative is getting a loan from a different lender, like a personal loan, a 0% APR credit card, or even a home equity loan or line of credit if you’re lucky enough to start from a position with equity.
Finally, there are some special “renovation mortgages” available through Fannie Mae and other lenders. These mortgages actually do allow you to take out a bigger mortgage so you can pay for renovations. You might need to provide a higher down payment or have a higher credit score to qualify, however.
5. Watch for Liens on Foreclosed Homes at Auctions
If you have a big pot of cash and can pay for a home on the same day, an auction might be your best bet. But then you have to worry about a new factor: liens.
If the property had any liens attached to it (such as from the previous homeowners not paying their taxes, or a judgement from unpaid debt), you’ll inherit that bill, too.
This is usually only the case for auctioned homes. If you buy a foreclosed home as an REO sale, the bank generally pays off any liens attached to the property. Still, it may be worth double-checking if you have interest in a specific property.
6. Be Prepared to Act Fast
You’re not the only one with the bright idea to get a low-priced, foreclosed home. Chances are good that there are a few other buyers interested in the property, which increases competition. Even though the home is listed at a big discount, this competition can still drive prices up. You might need to be ready to act fast, just the same as in any hot real estate market.
7. Be Prepared to Wait
On the flip side, there’s a lot of extra bureaucracy involved in buying a foreclosed home once the seller accepts your offer. There’s often extra paperwork to fill out or other complications.
For example, the home appraisal might come back lower than expected, which might make it harder to get enough financing for the agreed-on purchase price. If it’s a short sale, it might also take longer for the bank to approve the lower sale price for the home, based on what the homeowner’s mortgage is currently worth.
Pros and Cons of Foreclosed Homes
Buying a foreclosed home isn’t necessarily a good or bad idea on its own. It all depends on your own goals — for example, are you willing to figure out financing for repairs to get a deal on the home purchase price? Also consider how important it is for you to have a “move-in ready” home with no hassle.
Weigh these pros and cons carefully, and what’s most important to you when buying a home.
|Can get a deal that’s lower than market price||Property is sold “as-is” and might not be move-in ready|
|Can customize the home to your specifications with repairs and upgrades||Likely needs a lot of repairs and upgrades|
|Requires creative financing for repairs and upgrades|
|Foreclosure process is long and might fall through|
The Bottom Line
Buying a foreclosed home can be a win-win situation. You get a home at a good price, and (usually) you can bring the property back to good, working order by fixing it up. As long as you go into the deal knowing that it’s not the same experience as a typical home purchase, buying a foreclosed home is a great way to launch into homeownership or real estate investing.