Many buyers are nervous about buying a foreclosed home. There are plenty of horror stories about people purchasing a foreclosure and regretting it, but buying a foreclosure isn't necessarily the nightmare that some people portray it to be. The auctioneer at an auction I was at in September told me he bid on a house sight unseen--luckily he didn't get the bid. Several months later he saw the guy who did. The house was on a sink hole and he lost all his money!! There are some things you should know about foreclosures before you think about purchasing one, whether it's going to be your primary residence or an investment. Let's talk about what to expect so you are well prepared before you consider spending beaucoup bucks on a distressed property.
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First, let's make sure we understand what a foreclosure is: A foreclosed home is specifically a certain stage in the distressed sale process. The different types of distressed homes depend on the point they are at in the process:
- Pre-foreclosure is when the homeowner is just into default on the loan and its heading for foreclosure, but the lender has not yet foreclosed. These homes are like the other stages, the homeowner usually is unable to negotiate on things like repairs, or the owner might have been under financial strain for some time (could be some big issues with the home)
- Unlike pre-foreclosure, Foreclosed property has been repossessed by the lender and is going to sell at an auction. These auctions are cash-only and usually sight-unseen. They're a great way for investors with cash on hand to find new properties to buy and hold or fix and flip, but maybe not best way for an average buyer to get their foot in the door with their first buy.
- Then there are REO (real-estate-owned) homes or bank-owned homes. The last buyer has been foreclosed on and left the property (hopefully), but it didn't sell at auction; now it's going to sit on the bank's balance sheet for some time until someone buys it.
Tips for buying a distressed home: You don't need to be an investor to consider purchasing a distressed home. There are some EXCELLENT deals available for the right buyer, but you need to know what you're getting into before you can't dig yourself out of a hole.
- Cash is king: Many investors buy their properties with cash, which is a tough thing to compete with as a buyer who needs to get mortgage financing in order to be able to afford a home. You can get a mortgage loan to buy a distressed property, but you also need to calculate funds needed if you want to buy a distressed property. You will have normal costs of home buying, like closing costs (and likely the sellers closing costs), but also the cost of repairs. You may be able to get those financed as well with a construction loan. If the house isn't move-in-ready, you'll want to have funds available to continue to pay for your current residence until it's available for you to occupy. If it will be an investment property, you will still have vacancy costs while you fix up the property and are not receiving rents.
- Get preapproved: Preapproval is ideal for any buyer interested in the home sale process, but it's especially important for buyers looking at foreclosures. You likely won't be able to add any contingencies to the loan in many cases (insepction, termite, survey). If you've ever bought or sold a home with another human, you already know that the home sale process can be rough; imagine if instead of a human on the other side of the deal, you were working with a bank. The more red tape you can eliminate before you even find the home, the more successful you will be in the buying process.
Research, research, research:
Let's say your getting a loan for your home purchase, that means you're either buying a home as a pre-foreclosure or an REO property. You can have the ability to get more due diligence completed on these two stages rather than an auction. Due diligence is vital when buying a distressed home; more so than an owner-occupied home since you have no one to ask questions of. Before you make an offer on any distressed home, investigate as much as you can. Try to find out how long it's been unoccupied, the longer left vacant the more likely issues have compounded and will require more repair work than occupied homes.
- Hire a home inspector if the seller/bank allows it. If not, take a contractor with you and get them to give you a rough estimate of repairs needed, knowing more issues may be found once they get started. Use the estimate to decide if you want to make an offer at all and how much you're willing to give. See if a local title company will do a preliminary title search for you and ensure there is no liens beyond the mortgage company selling. Title insurance may not be provided by the seller and the buyer will likely have to pay for it.
- Visit the house. At least walk around outside and get a sense of what it will look like when everything is all spruced up and the location on the street/within the town. How bad does the roof look? Does it look like the septic tank has fell in? Does it have an air conditioner? Did they close in the garage or is it still covered parking? Did the last owner take the shed/fence/appliances/cabinets with them? It may give you an idea of how long the previous homeowner was struggling before foreclosure and if there are any long-term problems. More than likely at this point these homes are unoccupied and you can look in the windows if the bank won't give you actually access to the home. One foreclosure I bought was occupied. Best I can tell, this house was foreclosed on for over three years and they still had not moved out!! When I notified them I now owned they home, they claimed that wasn't possible as they were in negotiations with their lender. 9 months later (COVID) they were finally removed from the home by judges' order. In the end I came out good though because the market improved greatly and I decided to flip the home rather than use it as a rental. I still wouldn't buy an occupied home again!
Another tip for how to buy a foreclosure is Watch the market and have your favorite Realtor help you find the value of the home. Check the tax card (public information) to see what it last sold for or the last couple times and if its been in foreclosure before. What does the county say it is worth? What are the taxes? Is there a home owners association. See what other houses like it are for sale or have sold for. Obviously, you are not going to pay that much for it, but it gives you an idea of what it would be worth when you get done fixing it up. Even if you are going to keep it as a rental property, eventually you or your family are going to want to sell the property.
What other similar homes are on the market? Buyers interested in distressed properties are competing against experienced investor and you want to get an idea of your competition. If foreclosures in your area are almost all selling at auction, then you know there's a high demand. You might want to bid higher for the pre-foreclosure that you're able to talk to a seller about. If there are a lot of REO properties that aren't really moving, you can probably take your time choosing a house and making a competitive offer. Either way, adapt your strategy accordingly.
Tips for finding foreclosed properties. Don't pay for a list! Most likely the information is outdated, and these homes have already sold or are no longer for sale. There are a few websites I regularly check, like usda.gov, Hud homestore, auction.com or homepath.com. Some of these will also be listed on your MLS so let your favorite realtor know you are in the market to buy so they can keep you updated on any new listings. It wouldn't hurt to attend auctions or sales events even if you aren't planning on buying just to see how the procedure goes.
How do you Make an airtight offer: Remember that contingencies aren't the norm, and banks also aren't known for their ability to speed through, well, anything. The closer you can get your offer to accepted, the better it will be for everybody. Talk to your Realtor if you're unclear about what your offer should include. Many foreclosure companies expect earnest money with their offers, so be prepared to offer plenty. Make your offer the best it can be the first time if your competition is tight. You have to assume the bank will accept the best one the first time around, so don't feel like you missed out because you had more to offer. The foreclosure company also generally have their own timelines and don't care about your schedule. They usually have their own contracts created by their lawyers to protect them, so make sure to read the fine print!
Once your offer gets accepted, you'll be waiting for Closing then focusing on repairs and hopefully move-in soon. Very few distressed homes are going to be move-in-ready for their buyers, but it does happen. Depending on the level of work that needs to be done, some buyers might elect to work on the house while living somewher else while others can live in the house while working on it. That's going to be up to you and the amount of repair that your newly acquired, formerly distressed home requires. If you do the work on the front end, you'll find that buying a foreclosure can be an option for owner-occupiers, not just investors. But make sure you're not skimping on the due diligence. Learn everything you can about the home you're going to buy and you'll be much less likely to encounter any unpleasant surprises!
If you want more information about how to buy a foreclosure, reach out to me so I can give you some direction! In the meantime, download this information: 5 secrets to strengthen your offer.
