Buying a home in today’s competitive housing market is difficult. Affordable homes are hard to find, and inflation has raised interest rates and costs across the board.
But for first-time homebuyers who are flexible when it comes to the condition or exact location of a home, and are willing to put in some “sweat equity,” buying a foreclosed home could be a successful path to achieving that goal of homeownership.
Since lenders are selling these homes to recoup costs, they often can be purchased at lower prices, making foreclosed homes for sale a potentially more affordable option for cash-strapped buyers.
But buying foreclosed homes comes with trade-offs. While the price of the home might be cheaper, it’s usually sold as is, and may require expensive repairs or upgrades.
Before pursuing this option, it’s important to understand how to buy foreclosed homes, as well as the benefits and drawbacks of this type of home:
- What Is Foreclosure?
- Are Foreclosed Homes Cheaper?
- Where To Find Foreclosed Homes
- How To Buy Foreclosed Homes
- Is Buying a Foreclosed Home Worth It?
- The Bottom Line on Buying Foreclosed Homes
What Is Foreclosure?
Foreclosure is a legal process that mortgage lenders use when a borrower fails to repay the loan as agreed. The lender takes ownership of the property, and then tries to sell it at public auction or on the market to recoup the amount the borrower owes for the home. If the borrower is living in the house, they must move out or face eviction.
How foreclosure works
Foreclosure is a legal proceeding and adheres to a clear process. Though the specifics may differ from state to state, foreclosure typically can take up to six months to complete and follows these general steps.
The borrower defaults
Foreclosure begins when the borrower fails to pay their monthly mortgage bill. States have different requirements for how many missed payments constitute a default, but lenders usually send a demand letter to the borrower after the third month of missed payments. The borrower typically has 30 days after that to make up the missed payments, bring the loan current, and avoid foreclosure.
A public notice is issued
After three to six months of missed payments, the lender issues a public notice of default. In some states, and with some types of foreclosures, the process may require mediation or a trial.
Foreclosure proceedings begin
A date is set for the sale, which is when the foreclosure officially takes effect. In some states, this can be as little as two to three months after the demand letter is sent. During this period, the borrower still can try to make repayment arrangements or pay what’s owed — including attorney fees — to stop foreclosure and keep their home.
The property is sold
Public auctions usually start with a minimum bid that is based on factors such as the mortgage balance on the property, its appraised value, and any necessary fees.
If a home fails to sell at auction, the lender takes possession. Such homes are called real estate-owned, or REO, properties. The lender likely will use a broker or REO asset manager to find a buyer for the home.
Once the public auction is over, the former owner must vacate the property. The previous homeowner and the new one can negotiate a reasonable timetable for the former owner to remove their belongings and leave, though there’s no legal obligation to offer any such arrangement.
There are three types of foreclosures:
- A judicial foreclosure is when the lender pursues the case in state court, filing a lawsuit against the homeowner. If the borrower fails to pay within 30 days, the property is offered at public auction by a court or local sheriff’s office. This process can be found in all 50 states.
- A power-of-sale foreclosure, otherwise known as a statutory foreclosure, is a nonjudicial foreclosure that takes place if the mortgage agreement has a power-of-sale clause. If the borrower fails to meet demands for payment, the property is put up for public auction by the lender, rather than a government entity.
- A strict foreclosure avoids the auction process, resulting in the property going directly to the mortgage holder. This takes place after the lender files a lawsuit against the homeowner, and a certain number of days pass without repayment. Only a handful of states allow this type of foreclosure.
Foreclosed homes can be cheaper compared to the average home. The median price for a foreclosed home during the third quarter of 2020 was $180,250 — 36% less than the median home price of $281,438 during that same time.
Why are foreclosures cheaper? Many buyers of foreclosed homes find that the properties are in a less desirable location and are sold as is, meaning the buyer pays for any inspections and necessary repairs to make the home legally habitable. That’s in addition to any aesthetic changes or improvements the buyer wants to make.
Buyers can save money on these tasks if they’re willing to put in the time and the work themselves, but it still can be expensive. You could end up spending more on a nominally cheaper foreclosed home than a more costly one that is sold in the typical way and needs less work.
Also, auctions can be unpredictable. Though a property might be listed at a discount or have a low minimum bid, the final cost could be higher, says Ryan Huggins, a real estate broker at Huggins Homes in Thousand Oaks, California.
“They may start off cheap, but (a foreclosed home) can be bid up higher,” Huggins says.
The same factors that drive up prices during normal property sales also drive up prices on foreclosed homes for sale, says Bill Flagg, a broker associate and REO director at ERA Queen City Realty in Scotch Plains, New Jersey.
Aside from supply and demand, factors that make foreclosed homes for sale more expensive include proximity to downtown areas, train stations, restaurants, and shopping; good school systems, parks, and recreation facilities; and convenience in terms of major highways and public transportation, Flagg says.
While it’s usually easy to find homes for sale on the market, finding foreclosed homes requires a little more work and specialized knowledge. Knowing how foreclosed homes are listed or how they’re sold outside of an auction can help you start locating them.
Here are some ways to look for and find foreclosed homes for sale.
A short sale is when a lender lets the borrower sell the home for less than what they owe on the mortgage, which could help buyers get a good deal. You can find short sales by using a multiple listing service, checking local court records, or searching real estate websites.
Foreclosed properties often are sold at public auctions, which usually are listed on municipality, county, or state websites. Whether the home will be available for a home inspection prior to the auction depends on the selling jurisdiction’s regulations, but there is usually enough time for prospective buyers to do at least some research on a property before bidding.
Among the first places to look for foreclosed homes are bank websites. Since they tend to be major mortgage lenders, financial institutions like Bank of America and Wells Fargo have their own search engines to find REO properties in their systems. Other platforms include HomePath, which is run by Fannie Mae, a government-sponsored enterprise that finances and buys loans from lenders.
There are a handful of government websites that list foreclosed homes. Listings typically are linked to one of the government’s homeownership initiatives and loan programs. For example, the Department of Housing and Urban Development lists REO properties it has purchased from foreclosures on mortgages insured by the Federal Housing Administration. The Department of Agriculture also lists homes and farms for sale by the government.
Asset management companies typically are hired by banks and other lenders to manage the properties they own, including foreclosed homes. Their responsibilities include maintenance and handling the sale of the property. These companies will have a direct line to foreclosed homes for sale.
Whether you’re buying a home through conventional means or looking to purchase a foreclosed property, there’s a specific process you should follow to get the best deal. Some steps are unique to buying foreclosed homes, but many also apply to regular home sales.
It’s relatively easy to find a real estate agent in most markets. When buying a foreclosed home, try to find an agent who specializes in such properties.
Prior to searching for a foreclosed home, you’ll want to get preapproved for a mortgage. Preapproval lets sellers know that a lender has assessed your financial situation and expects to approve you for a loan. It shows agents and sellers that you’re creditworthy and ready to buy, which makes shopping for a foreclosed home easier.
If you’re buying at auction, there might be time before the sale to inspect and appraise the home. If you can do so, you should. Most auctions sell homes as is, so if you buy a home sight unseen and discover major problems later on, you’ll have to pay for repairs yourself.
After finding a home you want, you’ll need to finalize your loan. If you were preapproved, this part should be reasonably straightforward since the lender will be familiar with your finances.
The sale then proceeds to closing, where you’ll pay closing costs and finalize the deal.
Whether buying a foreclosed home is worthwhile depends on several factors. To better determine whether it’s right for you, here are a few pros and cons to consider.
These are some of the reasons to buy a foreclosed home.
There’s potential for big savings associated with buying a foreclosed home. However, how much you save overall will depend on the condition of the property and whether you can do the repairs yourself.
With an as-is property, you’ll likely have to make adjustments and fixes as needed. Though some may see this as a negative, Flagg says there’s some upside to personally doing repairs and upgrades that can boost your home’s value.
“There’s potential for instant equity in that scenario,” he says.
Financing is still available
Just because the previous owner failed to pay their mortgage doesn’t mean you can’t finance your purchase of the same home. If you’re qualified, there are different types of mortgages available, including conventional loans or government-backed options such as FHA, USDA, and Veterans Affairs loans.
Here are some reasons to avoid buying a foreclosed home.
Foreclosed homes typically are sold as is. Unless you do your own research on the home’s condition, this means you’ll be bidding on a property sight unseen and without recourse with the seller if problems are found later. You might need to pay more than you intended if the home requires extensive or expensive repairs.
You might have to evict someone
No one wants to be the villain in someone else’s story, but if you buy a foreclosed home, you might need to evict either the previous owner or a squatter who has since moved in. This also can be a costly legal proceeding.
Bidding could get out of hand
With the traditional real estate market, buyers can be anxious to secure a home — so much so that they’re willing to pay way over the sticker price to get what they want. This can happen in an REO auction as well, so be wary of any listings going for significantly more than the original bid.
It’s possible to buy a discounted property by looking for foreclosed homes, especially if you’re willing to put in the work to make repairs or upgrades yourself. Depending on the circumstances surrounding the home, you could face all kinds of issues, ranging from damage caused by the previous owner to structural issues that need to be addressed before moving in. Whether a foreclosed home is worth buying depends on how much you’ll end up saving, and your ability to cover those unforeseen costs.