Buying a Foreclosed Home

 Before the 2007-2009 mortgage crisis, purchasing a foreclosed home was difficult. Real estate bargain hunters had to attend courthouse auctions or sift through mountains of legal documents. Not only did the response to the subprime mortgage crisis increase the number of available properties, but it also made them easier to locate and acquire. In fact, the process resembles a search for any type of residence.

In virtually every real estate market in the United States, some foreclosed homes are available, providing opportunities for homeowners and investors alike.

• Foreclosure sales include pre-foreclosure, short sale, sheriff's sale, and bank-owned properties.

• The most alluring aspect of purchasing a foreclosed home is the attractive pricing.

• The disadvantages consist of a lengthy approval process, the possibility of condition issues, and competition from professional flippers.

• Options for government-sponsored financing are available.

How to Find Foreclosed Homes for Sale

Multiple listing service (MLS) websites and print publications, online real estate searches, bank offices and websites, and local newspapers can all be used to locate foreclosed properties.

The foreclosure status of a property may not be highlighted in local multiple listing services; it may only be mentioned in the property description.

Utilize websites that specialize in foreclosed homes and properties, such as Fannie Mae's HomePath.com, for a more direct route. Some financial institutions, such as Bank of America, offer web pages for searching foreclosed properties.

Lenders are increasingly selling repossessed property through real estate agents, so don't hesitate to inquire with a broker or agent about available properties. Some real estate pros even specialize in foreclosure properties.

The Various Types of Foreclosure Sales

Finding a foreclosed home depends on the precise stage of the foreclosure. In the early stages of foreclosure or short sale, the original homeowner or a bank or government entity may still own the property.

Here are five types of foreclosures and methods for purchasing them:

1. Pre-foreclosures

A property is in pre-foreclosure after the mortgage lender had already notified the borrowers that they are in default, but prior to its auction sale. If a homeowner is able to sell their home during this period, they may be able to avoid a formal foreclosure and its negative impact on their credit history and future prospects.

Typically, pre-foreclosures are listed in county and city courthouses. Additionally, numerous online resources, such as Foreclosure.com, list properties in the pre-foreclosure phase.

2. Short Sales

In a short sale, the lender is willing to accept less than the amount owed on a property's mortgage. A lender need not require borrowers to be in default in order to approve a short sale. Typically, they must demonstrate a financial hardship that is likely to result in default, such as the loss of employment.

In these instances, it is likely that the home is underwater, meaning its value is less than the outstanding mortgage balance. To meet the criteria as a short sale, the lender must agree to "short sell" the property by accepting less than what is owed, and the home must be listed for sale.

Typically, these properties are advertised as "pending bank approval"

The purchase of a short-sale property is comparable to a conventional purchase in most respects, but the language in the contracts will specify that the terms are contingent on lender approval. A bank may take several months to respond to a short-sale offer, making the process significantly more time-consuming than a standard purchase.

There is the option to search by short-sale status on numerous real estate websites, including those of individual firms and listing services.

3. Sheriff's Sale Auctions

A sheriff's sale auction occurs after the lender has informed the borrower of default and given the borrower a grace period to catch up on mortgage payments. The purpose of an auction is to expedite the repayment of a loan that is in default.

These auctions frequently take place on the courthouse steps of a city and are managed by local law enforcement agencies. The property is auctioned off to the highest bidder at a place and date announced publicly.

Notices are available in local newspapers and on the Internet. Look up "sheriff sale auctions"

4. Bank-Owned Properties

Unsold properties at auction are returned to the bank. In other words, they become REO (real estate owned) properties.

Typically, the REO department of the institution manages these properties. By city, state, or ZIP code, online sources such as RealtyTrac provide extensive listings of bank-owned properties that can be searched.

5. Government-Owned Properties

Some homes are acquired using loans guaranteed by the Federal Housing Administration (FHA) or the Department of Veterans Affairs (VA). Whenever these properties go into foreclosure, the government seizes them and sells them through brokers working on its behalf.

To purchase government-owned property, contact a government-registered broker. Buyers can locate a registered broker on the U.S. Department of Housing and Urban Development (HUD) website.

Financial Help for Homebuyers

If you have a very limited budget, you may qualify for one of a number of federal programs designed to make homeownership attainable.

USDA Loan Program

The Section 502 Direct Loan Program and the 504 are two programs of the United States Department of Agriculture (USDA) that assist low-income and very low-income rural residents in acquiring safe, decent housing.

• The Section 502 program subsidizes loan payments for the purchase of a modest rural home. Citizens who qualify must have a low or very low income.

• The Section 504 Single Family Repair program provides loans for rural home repairs and improvements. The loans are for people with extremely low incomes who cannot obtain bank financing. The elderly may qualify for outright grants.

Veterans Administration Loan Program

Current service members, veterans, and surviving spouses are eligible for the Veterans Administration's mortgage guarantee program. According to Military.com, the loans can be used to purchase foreclosed properties, though some preparation is required beforehand.

Benefits include loans with no down payment, lower closing costs, and no mortgage insurance requirement.

Why Foreclosed Homes Are Cheaper

Obviously, the greatest selling point of a foreclosed home is its marked-down price, which is frequently significantly lower than comparable properties in the same area (known as "comparables" or "comps" in broker parlance).

The majority of foreclosed properties are sold at substantial discounts to market value, with the exact amount varying by region. The seller may provide additional inducements, such as a reduced down payment, a lower interest rate, or the elimination of appraisal fees and a portion of closing costs.

Why are these properties so inexpensive? If a home is in the pre-foreclosure or short-sale phase, the owners are in dire financial straits, and time is not on their side. They must dispose of the property and salvage whatever they can before they lose ownership.

In short, these sellers are negotiating from a position of weakness, and although it may seem cruel, a buyer can benefit from their misfortune.

Even more advantages accrue to the buyer if the property has been seized. The sheriff's office is not interested in keeping a property, and banks do not want to be landlords. Typically, financial institutions wish to quickly dispose of foreclosed properties. They must obtain a reasonable price because they must account to their investors and auditors. Still, buyers have an chance of getting the foreclosure house at a less price.

You should be aware that most foreclosed homes are sold "as is." As used-car and vintage-furniture enthusiasts are well aware, "as is" is synonymous with a price reduction.

"as is" can always certainly be a double-edged sword.

Risks of Buying Foreclosed Homes

Possibility of a below-market price is a major advantage of purchasing a foreclosed home.

However, these properties are not without their drawbacks.

Property Issues

It may be subject to a compensatory discount, but its condition as-is may be quite poor.

If the owners are still living in the house, it may be poorly maintained. If people are unable to make their mortgage payments, they may fall behind on routine maintenance and major repairs.

Some individuals facing foreclosure are resentful, and they take out their anger on their home prior to its repossession by the bank. This includes the intentional removal of appliances and fixtures as well as vandalism.

Hidden Costs

Frequently, auctioned properties have tax arrears and liens attached to them. The Internal Revenue Service (IRS), the state, or other creditors may levy the liens. This can increase the price of an otherwise desirable home.

Before the buying process can continue, the government must be repaid for all debts.

This primarily applies to auctioned properties. Before reselling a property, banks eliminate any encumbrances.

Slow Process

Any of these complications can result in a substantial amount of paperwork for the buyer.

Generally, a number of additional documents must be completed to prepare for the closing of a foreclosure, which is not always as timely as a buyer would like.

In a short sale, the lender must approve the transaction, which can delay the closing. Severe damage to the home can result in a lower home appraisal, which may affect the buyer's ability to obtain a mortgage. Some lenders will not lend below a certain dollar amount because the potential profit on a smaller loan is not sufficient to justify the risk.

You might believe that a bank would be eager to sell a foreclosed home, but response times between the bank and other parties can be slow with REO properties.

The time required to receive a response to your bid varies considerably. If the bank holding the property is overwhelmed with foreclosures, it may take a while for your request to be processed. There have been reports of banks with substantial backlogs taking up to ninety days to respond to an offer.

If you intend to finance the purchase, it would be prudent to obtain mortgage preapproval and it will likely quicken the process.

Competition

When dealing with desirable foreclosed properties, heightened interest and competition are unavoidable, not only from prospective occupants but also from investors and professional house flippers.

When a foreclosed home is priced competitively, numerous offers can be submitted rapidly, resulting in a bidding war. A once-cheap home can quickly become an expensive asset.

Potential purchasers may wish to submit bids on multiple properties simultaneously in the hopes that one will be successful.

Do not become disheartened if someone outbids you. Periodically check back to see if it reappears in the bank's inventory. Quite frequently, foreclosure deals fall through.

Purchasing a Foreclosed Home

If purchasing from a bank, you will need to hone your negotiation skills and make a lowball offer on the property you desire.

Banks with substantial inventories of foreclosed properties will be more amenable to price negotiations. The longer the bank has owned the property, the more likely it is to consider low-ball offers.

You could submit an opening bid that is at least 20% below the current market price, or even higher if the property is located in an area with a high foreclosure rate.

You are in an enviable position if you can pay cash for the property and any necessary renovations. Therefore, some buyers decide to join forces with outside investors who can assist them in the beginning and share any profits when the home is resold.

In fact, cash transactions constitute a significant proportion of REO sales.

Financing Options for Foreclosed Homes

Private lenders are typically hesitant to finance foreclosure transactions. For those who qualify, there are several government-sponsored financing options available:

• 203(k) loans - Federal Housing Administration (FHA),
• Fannie Mae’s - HomePath ReadyBuyer program,
• The HomeSteps program - Freddie Mac.

203(k) Loans

The FHA created 203(k) loans to circumvent banks' reluctance to finance high-risk REO purchases. By charging a mortgage insurance premium to borrowers, the FHA is able to guarantee loans made by participating private lenders.

Borrowers have the option of combining the financing for the home purchase and any necessary repairs into a single mortgage.

The simplified 203(k) loan is designed for limited repairs that do not require engineering or architectural plans. For repairs such as new appliances, siding, and windows, buyers can borrow up to $35,000 in addition to the home's sale price.

If extensive repairs are required, such as building an addition or repairing structural damage, a "standard 203(k) loan" is typically the best option. In contrast to the "limited" option, homeowners must withdraw at least $5,000. The maximum loan amount is based on FHA county limits.

The buyer must pay for an independent consultant to inspect the property as well as verify that the work complies with program requirements.

The cost of these loans is a disadvantage. In addition to paying mortgage insurance, borrowers usually pay interest rates that are a quarter-point higher than those for conventional loans. They may also be required to pay one or two points, or fees equal to 1% of the principal amount.

HomePath Ready-purchaser

Fannie Mae's HomePath Ready Buyer program is exclusively designed for first-time buyers. After completing a required online homebuyer education course, participants can receive up to 3% in closing cost assistance towards the purchase of a Fannie Mae-owned foreclosed property.

This government-sponsored enterprise also offers additional discounts. Homebuyers may only be required to put down $500 in earnest money, and the necessary private mortgage insurance may be cancelled once the home's equity reaches 20%.

HomeSteps

By purchasing loans from banks, pooling them, and selling them to investors as securities, Freddie Mac provides liquidity to the mortgage market. Its HomeSteps programme offers special financing to individuals who wish to purchase one of its foreclosed properties.

Currently, HomeSteps is only available in the following states:

a)   Alabama

b)   Florida

c)    Georgia

d)   Illinois

e)    Kentucky

f)     North Carolina

g)   South Carolina

h)   Tennessee

i)      Texas

j)      Virginia

If you happen to reside in one of these states, HomeSteps offers substantial advantages. Unlike 203(k) loans, you are not required to purchase mortgage insurance, which is one of the most significant advantages. This alone can save purchasers hundreds or even thousands of dollars over the life of the loan.

HomeSteps mortgages do not require an appraisal at origination, which can be a significant obstacle for borrowers seeking conventional loans. On the HomeSteps website, buyers can find a list of single-family, condominium, and multifamily properties.

Who Should Purchase a Foreclosure Home?

People who are willing to conduct extensive research prior to making an offer, as well as those who are willing to endure lengthy delays and cumbersome paperwork, may find this to be an effective strategy.

It is extremely advantageous to be able to pay large amounts of cash on short notice for repairs, delinquent taxes, and liens.

A plus is eligibility for one of the federal financing programmes, such as a 203(k) loan, HomePath ReadyBuyer mortgage, or a HomeSteps loan. These programmes were designed to assist homebuyers.

In its absence, an all-cash offer, if possible, can give you an advantage.

Who Should Not Purchase a Foreclosure Home?

Shopping for a foreclosed home is tedious and time-consuming. Making a deal official is worse.

If you need a home immediately or cannot emotionally handle repeated disappointments, you probably shouldn't take on this responsibility.

Additionally, it is a poor idea if you are shopping at the limit of your budget. You may require additional funds to cover unforeseen expenses.

Good Time to Buy a Foreclosed Home?

The foreclosure moratorium imposed by the COVID-19 pandemic ended on July 31, 2021. When the moratorium expired, investors anticipated a wave of foreclosures, but there is no evidence that this has occurred.

In today's market, buyers of foreclosed homes should anticipate a limited supply and intense competition for the majority of deals.

The Bottom Line

On the surface, foreclosed homes can appear to be quite desirable. Nevertheless, costs can be highly unpredictable, and underlying damage may render a property undesirable. The often-sluggish buying process may cause some to have second thoughts, while the high demand for appealing foreclosed properties may deter other prospective buyers.

In light of the foregoing, foreclosed homes can end up being incredible bargains. Buyers have the rare opportunity to pay below market value for homes that would not normally be available to them. If there are acquisition savings, it increases the likelihood that the buyer will realize asset appreciation and investment gains if they sell the asset in the future. A buyer who purchases a foreclosed home in a responsible manner can enjoy numerous benefits for many years.