By buying a foreclosed home, you can score a great deal during a time when deals are hard to find. “The advantage of purchasing a foreclosure property is, in short, price,” says John Soffee, a Realtor with Freedom Realty Services in Midlothian, Virginia.
However, the process is more nuanced than buying a traditional listing, and it’s important to remember that foreclosures are currently at record lows. During the first two years of the pandemic, many homeowners were able to remain in their homes due to state and federal forbearance programs and programs that allowed them to negotiate payment terms with their lenders. Most of these programs have now ceased — and while there was an uptick in foreclosures in the first quarter of 2022, they’re still well below pre-pandemic levels.
If you’re wondering how to buy a foreclosed home, consider this your primer.
What is a foreclosure?
Foreclosures happen when a lender takes a property from an owner who has fallen behind on payments and defaulted on their mortgage. Lenders will then try to recoup as much of their investment as possible by selling a foreclosed home for slightly less than it might be worth. In the right situation, “you are getting something below market value because the bank is motivated to get the home sold,” says agent Rose Sklar of the Sklar Team at Coldwell Banker in Weston, Florida.
How to buy a foreclosed home
Buying a foreclosed home can be a great financial deal, but it’s more complicated than a conventional real estate transaction. Here’s a step-by-step guide for how to do it right.
1. Find an experienced real estate agent
Foreclosures can be difficult to find and price, so try to work with a real estate agent that specializes in them. An agent who is knowledgeable about the foreclosure process can represent your interests and keep the transaction moving. One strategy for finding the right agent is to visit websites with a database of foreclosed homes in your desired area. Look for Realtors who have specialized real estate training in this area, such as the Certified Distressed Property Expert (CDPE) or the Short Sales and Foreclosure Resource (SFR) designations.
Buyers can also work directly with the bank’s real estate agent instead of using a buyer’s agent to save on the commission split. This can be a risk, though: “Buyers feel more secure when they are [directly] represented,” Soffee says.
Your agent can guide you through various types of distressed sales. These include:
- Preforeclosures, in which a buyer bails out a seller before the bank takes the property
- Short sales, in which the borrower owes more than the home is worth and the bank agrees to forgive some of the debt
- Public auctions, in which bidders have a chance to make offers on foreclosed properties at the local courthouse
- Bank-owned homes, which belong to the lender
Some lenders — including Bank of America, Citibank and Wells Fargo — post their bank-owned properties online. The U.S. Department of Housing and Urban Development also lists its inventory of foreclosures. Ask your agent to look out for foreclosure properties that meet your criteria, too. These listings can go fast, so be prepared to move quickly.
2. Get a preapproval letter
Preapproval letters detail how much money you can borrow based on the lender’s thorough assessment of your finances, including credit score and income. “It’s always good to be prepared,” Sklar says. “Having your proof of funds will make it an easier transaction.”
You’ll also want to consider what kind of loan to get preapproved for. Foreclosed properties often require repairs or upgrades, and an FHA 203(k) loan can help. These loans allow buyers to finance up to $35,000 for repairs.
Foreclosures often get scooped up by real estate investors who pay cash. But don’t let that discourage you; many lenders will help you find the right financing to buy a foreclosed home. Find a mortgage lender who understands your goals.
3. Look at comps to determine what to offer
Finding the right price to offer is as much an art as it is a science. Your agent can run a comparative market analysis (CMA), which helps you understand recent sale prices of comparable properties, or “comps.”
Soffee says he runs a CMA from the last 180 days and evaluates several factors, including the pace of home sales, tax assessment history and a deeper analysis of similar properties nearby that have recently sold.
If you’re up against cash offers, knowing this information can help ensure your offer is a competitive one. Your lender will require an appraisal to assess the home’s value, so keep that in mind when making your offer, as well. If there’s a shortfall between your offer and the home’s appraised value, you might have to make up the difference in price if the bank (the seller) doesn’t budge.
4. Bid higher if other foreclosures are selling quickly
When a foreclosure comes on the market there is frequently high competition, so be prepared to bid fast and high. There’s no exact formula on what the bank’s bottom line will be, so if foreclosed homes in your area are selling quickly, it’s important to work with your agent to craft a strong offer, backed up by your preapproval letter if obtaining a mortgage. In many instances, foreclosures are already discounted, so an offer that’s too low might be a non-starter for the bank.
Keep in mind that the type of house and location matter, and some homes might sell faster than others. In competitive markets, you might need to offer asking price (or slightly more if there are multiple bids) and keep contingencies to a minimum.
5. Be prepared for “as-is” condition
A foreclosure is usually sold in “as-is” condition. This means that the seller can’t guarantee the property’s condition, such as whether it has termite damage, structural issues or lead paint, for example, and is unlikely to make repairs. “Since a foreclosure is owned by the bank, there is no one to fix any current issues,” Sklar says.
If you plan to buy a foreclosed home, get a home inspection so you know exactly what you’re in store for. An inspection isn’t required to buy a foreclosed home, but it can identify major issues the bank isn’t aware of. It will help you decide whether to move forward with the purchase or walk away from the deal (provided you included a home inspection contingency in your contract).
It’s smart to look for a foreclosed home on the lower end of your budget so you have room to increase your bids and pay for necessary repairs.
Buying a foreclosed home: Pros and cons
Buying a foreclosed home is a personal decision. It depends on a variety of factors, including your risk tolerance, the property’s potential reward, financing and your ability to move quickly. In many cases you’re also benefiting from someone else’s misfortune, which can be a deal-breaker for some people. Here are some pros and cons to consider.
- Good value: Scoring a low price is the biggest attraction for foreclosure shoppers. Especially in down markets, foreclosed properties can sell for a discount.
- Strong returns: If you find a well-priced foreclosure and perform repairs cost-effectively, your reward is a property worth more than you paid.
- Complicated process: Compared to a typical transaction, buying a distressed property requires more specialized knowledge.
- Extensive repairs: Foreclosed properties often need work. Struggling homeowners might ignore routine maintenance, so the repair bills can be expensive.
- Stiff competition: Foreclosures typically are the purview of professional investors, and competing against them isn’t always easy.