Buying a foreclosure is not all that different from buying any other home, but the small differences are vital for you to know when buying a foreclosed home. This post will walk you through the process of buying a foreclosure for either your personal use or as a real estate investment—so you know exactly what to expect and go into the process prepared.
How to Buy a Foreclosure: The Foreclosure Process
Before diving too deeply into the details, let’s first make sure we’re all on the same page with terms. A foreclosure is a process where the lien holder, i.e. the individual or lending institution that has a claim to the real estate, reclaims a property due to a variety of possible reasons, but most commonly the lack of payment on a loan. The foreclosure process differs in each state, but it generally begins with numerous notices being given to the property owner, followed by a legal set of steps leading up to the actual foreclosure.
There are generally three places in the foreclosure process where it is possible to buy a property:
- At the courthouse steps
- After the foreclosure
When learning how to buy a foreclosure, it’s important to know all three steps.
1. Buying a House During Pre-Foreclosure
It is possible to buy a home before the foreclosure is finalized and the homeowner is kicked out. Buying a property during this period known as “pre-foreclosure” is a common technique used by many real estate investors and can be a good way to find motivated homeowners. After all, few things in life are more motivating for a homeowner than knowing they will soon be physically removed from their home.
2. Buying a Foreclosure at the Courthouse Steps
In most states, once the legal process has been carried out, the property is sent to the county for a public auction on the “courthouse steps” (sometimes figuratively, but often literally on the steps) and sold to the highest bidder. This process is known as the trustee sale. The bidding generally opens with an automatic starting bid of whatever amount is owed on the property, so it’s generally not possible to simply go and bid a dollar on a property at the courthouse. If a homeowner owed $80,000 on a loan secured by the property, for example, the bidding would start at $80,000. If no one bids higher, the lien holder will be awarded the property and given title.
Related: 6 Tips on Investing in Foreclosures for First Timers
To buy a foreclosure at the courthouse steps, there are several tips to keep in mind:
- Buyer beware. When you buy a foreclosure at the courthouse, you do not receive any guarantee that the property is free of liens or encumbrances. This means you could be buying a property that has hidden liens (such as a lien placed by a contractor, a disgruntled ex-spouse, or any other number of individuals). For more information on how to find what liens are on a property, check out Property Lien Search: How to Find out if there are Liens on a Property.
- You likely won’t know the property’s condition. Because up to this point the property is still owned by the homeowner, you probably will not get a chance to get inside the property and check it out (unless you go to the property, knock on the door, and ask). There may be hidden defects with the home, and you generally will not have the time do a formal inspection.
- You’ll need cash. Finally, when buying a foreclosure at the courthouse steps, you will need to have all the money the same day to purchase this property. This means you cannot use a conventional loan to buy the property. There are also some hard money lenders who fund these kind of deals.
3. Buying During Post-Foreclosure
After the sale on the courthouse steps, the new owner of the property will next need to evict the “tenants” (former homeowners) who may still reside at the property. If it is a bank that forecloses, the bank will generally go through the process of evicting the tenant and getting the home listed with a real estate agent to sell.
When a bank takes back the property and begins to sell it, the property is now known as an REO, or “real estate owned.”
3 Places to Shop for a Foreclosed Home
There are several ways to shop for a foreclosure—here are some of the most common methods.
1. The MLS
By far the most common source of foreclosures is the Multiple Listing Service (MLS.) The MLS is a collection of lists put together by local real estate agents of all the properties currently for sale in their offices. In the old days, these lists were kept in file cabinets, and each office kept their own lists private. Today, real estate brokers work together to share all the information freely using the MLS.
The MLS is fully accessible for any real estate agent, so it is highly recommended that you either get your own real estate license or work closely with an agent you like and trust (after all, a real estate agent is generally paid by the seller, so it’s free for you to use an agent!). You can also get information online through many different websites such as Realtor.com, RedFin.com, Zillow.com, or Trulia.com. These sites help you sift through nearly all the listings and give you at least some of the information about the property.
Keep in mind, however, that these lists can also be slightly delayed, so in a hot market, you could miss out on some deals if only relying on the internet.
2. Bank REO Departments
Banks typically have an “REO Department” and someone in charge of working with those properties. While most REO properties end up on the MLS (see above) it is possible to connect with an REO department and gain access to properties before they’re placed on the MLS. This is especially true with smaller community banks.
Related: 5 Big Advantages REO Properties Offer to Real Estate Investors
3. The HUD Store
Some properties that have been foreclosed on by the U.S. Department of Housing and Urban Development (HUD) are not listed publicly on the MLS but instead are only accessed privately on the HUD Home Store.
How to Put in Your Offer
Once you find a property you want to buy, it’s time to submit your offer. Again, this is when a good real estate agent comes in handy. Typically, you will meet with your agent and let them know the terms you want to offer. Your agent will submit an offer to the seller and the bank will look it over and either:
- Accept it
- Deny it
- Ignore it
- Counter it (most common)
Highest and Best
Many times, if there are multiple offers on a property, the seller will ask for you to submit your “highest and best” offer. In other words, the bank is asking you to bid on the property against others. At this time, it can be easy to fall into “auction mode,” and many overpay because of the hype, so be sure to stick to the numbers you need to make a profit.
Do Your Due Diligence and Actually Buy the Foreclosure
Once your offer is accepted, it’s time to do your due diligence and make sure all your ducks are in a row. This is when you hire an inspector to check out the property and get your financing fully in place. In most states, the closing process is handled by a title company, which will prepare all the documents and arrange for signing by both parties. However, in some states, an attorney is responsible for this procedure, but the steps are nearly the same.
After both parties have signed the documents and the new deed has been recorded with the local county, the property is officially yours!
We’ve updated this article and are republishing it to help out our newer readers.
What questions do you have about the process? Or have you learned any lessons in your experience that can help others with buying a foreclosure?
Leave your comments below!
Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.