Buying a foreclosed home: Key steps, pros and cons

Maybe you know someone who’s found a great deal on a foreclosed home. Maybe they paid a fraction of the home’s value and now seem really smart. 

Buying a foreclosed property doesn’t always work this way. Sometimes the money saved must be spent fixing up the home. Other times, bidders at foreclosure auctions can’t compete with experienced investors making cash offers.

That said, it is possible to buy a foreclosed home to live in as a primary residence while saving money along the way. The first step? Taking a few minutes to learn what you’ll need to succeed.

...in as little as 3 minutes – no credit impact

What does foreclosure mean?

Not every mortgage borrower keeps making their loan’s monthly mortgage payments. When homeowners fall too far behind on the payments and default on the mortgage, the lender may begin the foreclosure process.  

During foreclosure proceedings, the borrower who stopped making payments moves out and the lender takes ownership of the home. To generate the loan’s remaining balance and reimburse itself for money lost on the mortgage loan, the lender typically sells the repossessed home.

That’s where the new buyer enters the picture. Banks and other lenders may sell foreclosed properties for less than market value if the sale covers their losses. Foreclosed homes typically sell as-is which means the buyer may need to fix up the place before moving in.

What about short sales and pre-foreclosed homes?

Some homeowners who fall behind on their mortgage payments can avoid foreclosure by negotiating a short sale with their lender. If the lender agrees, the borrower can sell the home to a third party for less than the home’s mortgage balance owed.  

The borrower loses the home but avoids adding a foreclosure to their credit history. The short sale won’t cover all the lender's losses, but the lender avoids the expense of filing for foreclosure. 

Pre-foreclosure refers to the time when foreclosure seems imminent but proceedings haven’t started yet. When the borrower falls more than three to four months behind on the mortgage, the home could be considered in pre-foreclosure. 

Pre-foreclosure is typically the time when the borrower negotiates for a short sale.

How to buy a foreclosed home: Step-by-step 

Compared to the housing market of 15 years ago, during the Great Recession, far fewer homes today enter foreclosure.  

But the number of foreclosures has inched up since the pandemic when loan servicers were actively helping borrowers stay out of foreclosure.  

If you’re shopping for a foreclosed homes or properties in pre-foreclosure, here are some steps to follow:

1. Understand foreclosure listings

Foreclosure is a public court proceeding, so shoppers should check court records, in person at local courthouses or online, to find homes that may soon be available for sale. In many states, foreclosed homes are sold at auction. 

Auction bids are cash offers, and there’s no time for inspections, appraisals, or mortgage loans. The cash buyer takes all the risk here and should bid accordingly. 

Homes that don’t sell at auction become real estate-owned properties (REO). These homes can be financed with a mortgage lender. They’re often listed through:  

— Fannie Mae and Freddie Mac: Fannie and Freddie buy conventional mortgages from lenders. When these homes enter foreclosure, they can appear on Fannie’s HomePath database or Freddie’s HomeSteps program. (Not every home listed is a foreclosure. Use search filters to narrow search results.)

— HUD: The U.S. Department of Housing and Urban Development’s (HUD) FHA loan program lists some of its foreclosures here. 

— Other government agencies: This page includes links to homes from other government agencies. 

Many local MLS databases allow shoppers to search for REO properties. 

2. Secure financing

When buying a foreclosure from a lender or a loan program, shoppers can use mortgages to finance the home. Ultimately, this process works like buying a home from its private owner except the lender or loan program owns the home.  

Homes bought this way will be appraised, and the buyer get their own home inspection to learn the condition of the home before buying. 

Speed still matters. That’s one reason Better’s AI-driven online mortgage application process shines for foreclosure buyers. Buyers can often get pre-approved within a few minutes. Pre-approved buyers know their price range because they know how much they can borrow.

...in as little as 3 minutes – no credit impact

Better gives you a competitive edge with lightning-fast pre-approvals, low fees, and an entirely online process—so you can move quickly on foreclosed homes without sacrificing peace of mind. 

3. Hire an experienced real estate agent

With a sense for the market and a pre-approved price range in mind, it’s time to get serious about buying a real estate-owned property. A real estate agent who has experience with foreclosures can become an invaluable resource at this point. 

From finding foreclosed homes to making an offer and closing the loan, an agent acts as the buyer’s guide and advocate throughout the home buying process. Agents who know the local market may know about foreclosures before court proceedings begin.

4. Find the right home

With a real estate agent’s guidance, shoppers should focus on whether the home they’re considering meets their needs. This sounds obvious, but shoppers can get distracted by the potential for a great deal or by competition from other buyers. 

Before making a home a contender, ask whether the home has: 

— The right project scope: Some foreclosures sell in great condition, but most need updates and repairs. Buyers with little to no fixer-upper experience can get in over their heads if they buy a home that needs major repairs.

— Adequate space: With fewer foreclosures available today, it’s harder to find homes that meet all of a family’s space needs. It’s OK to consider homes without a garage or office, for example, but the home should have enough bedrooms and adequate kitchen and living space.

— An acceptable location: In many areas, foreclosures are concentrated in a few neighborhoods. Buyers who want a home in a neighborhood that seldom sees foreclosures may have to compromise.

— Potential return on investment: Foreclosure prices can offer a lower entry point. That’s one of their biggest attractions. But not every foreclosure costs dramatically less than other homes on the market, especially if the home needs significant repairs. 

— An eye on the future: Needs change, so buyers should consider how the home will meet their needs in a few years or in a decade. 

Different buyers prioritize their goals in different ways, but all buyers should look for a home that balances their unique blend of needs.

5. Make an offer

Found the right home? It’s time to make an offer. Be sure to make a respectable and competitive offer — one the bank will take seriously. The real estate agent can guide this step.  

The owner’s acceptance of an offer sets the mortgage closing process in motion. With a subject property, the lender who’s financing the purchase can order an appraisal and start the underwriting process.

6. Get an inspection

While the lender does its work to finance the home, the buyer should thoroughly inspect the home. For best results, hire an independent home inspector to look at every aspect of the home, from the roof vents to the foundation pilings or slab.  

Cash buyers at foreclosure auctions won’t have time for an inspection, but a buyer who’s getting a mortgage should spend the time and money to learn as much as they can about the home before buying it. 

Sometimes, an inspector will uncover a significant problem, like a shifting foundation or the presence of asbestos in the ductwork. These types of problems can change the deal. Even if the home inspection uncovers only typical problems for the age of the home, it’s good to know about them from Day 1.

7. Close the deal

All the pieces of the puzzle come together on closing day.  

The borrower brings the down payment and closing costs to the table. The lender provides the rest of the money and a big stack of papers to sign. A closing agent or attorney coordinates the moving pieces, including the registration of the deed. The buyer leaves the closing with keys in hand. 

Pros and cons of buying a foreclosed home

The foreclosure market isn’t for everyone. Buyers should consider all the pros and cons before deciding whether to proceed:

Pros

— Saving money: This is the biggest pro for most foreclosed home buyers. Buying a foreclosure could save tens of thousands of dollars or more compared to buying at market prices. 

— Quick ROI: Homes sold below market value can generate a fast return on the investment, especially if the buyer improves the property right away.

— Renovation opportunity: Improving the home can also mean customizing home. A turnkey home, on the other hand, reflects someone else’s choices.

...in as little as 3 minutes – no credit impact

Cons

— Delays: Some foreclosures need so much work the new owner can’t move in for a few months. The new homeowner will need somewhere else to live.

— Living in a work zone: Some foreclosure buyers move in and live amidst the dust and debris of their renovations. 

— The planning: Large renovation projects will need someone to coordinate the different types of skilled labor that will be needed. For example, it’s best to fix the plumbing and the electrical systems before fixing the walls.

— The costs: Foreclosure buyers should plan for their project costs before they buy the home. Certain types of mortgages, like the FHA 203(k) loan, can finance repairs into the primary mortgage if the new owner has a plan and a qualified contractor.

What to inspect before buying a foreclosed home

A qualified home inspector should check every aspect of a home and send a written report. Be sure to check the report for information about these important parts of the home: 

— Its structure: Some people call this the bones of the house. Is the foundation staying in one place or is it shifting? Are the home’s load-bearing walls still intact? Is the floor mostly level?

— Its systems: Lots of older, distressed homes have outdated plumbing and electrical systems. Moisture on or near pipes in the basement and lights that dim when you turn on an appliance can be signs of trouble. For big repairs or expansions of these systems, hire a licensed pro and use permits when required.

— Its roof and stormwater diversion: It doesn’t take long for water to undermine a home’s structure. The roof, along with the home’s gutters and downspouts, should work together to divert rain away from the home’s interior and foundation.

— Its HVAC system: Heating and cooling makes the home comfortable, but it also keeps the home healthy by preventing burst pipes and mold growth.

— General safety: Do the doors and windows lock? Is the home free of rodent and pest infestations?   

After these elements of the home are healthy, or after the new buyer has a plan for remediating them, it’s time to start focusing on the details. 

Is buying a foreclosed home the right move for you?

Foreclosures tend to draw inexperienced buyers who are looking for a bargain. These buyers can be disappointed by the real life experience of buying foreclosed homes. The money saved on the purchase comes at a cost: Delays, unexpected expenses, too many compromises. 

On the other hand, buyers who know what they’re getting into with a foreclosure can benefit from the home’s potential for savings. Buyers who know what to expect also have a sense for which homes to avoid and which ones to embrace.

New to foreclosures? Be sure to ask for help

The best piece of advice for someone entering the world of buying foreclosed properties: Know when to ask for help.

When in doubt, ask a Realtor or a friend who knows about fixing houses for advice about what kind of foreclosed home can be converted into a good investment and a future home. 

And when you need expert advice about financing the property, check with Better. With Better’s online application process, you could be pre-approved and know your price range within a few minutes.

...in as little as 3 minutes – no credit impact