The Pros & Cons of Buying a Foreclosure

A distressed property

What this article is all about:



Preparing to Buy a Foreclosure

If you're a buyer considering a foreclosure purchase, be sure you've evaluated the advantages and disadvantages of this type of transaction first. Buying a foreclosure requires careful budgeting, the right real estate team, and the mental resolve to see the purchase through.

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Pros of Buying a Foreclosure

The primary reason to consider purchasing a foreclosure is the potential for a great deal. The foreclosing lender typically doesn't want to hold on to the home and may be willing to offer the property at a discount to get it off their books.

Home upgrades

Those willing to take the risk can use a home's foreclosure status to their advantage, buying a larger property or in a more desirable neighborhood than otherwise possible. You'll find foreclosures in every price range – from starter houses to luxury mansions – and occasionally the property is in great condition, ready for you to make it your home.

Financial gains

In the best scenario buying a foreclosure is also financially advantageous since the price you paid is below market rate. If the value of the home appreciates and you decide to sell, your investment could return even larger gains.

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Cons of Buying a Foreclosure

The disadvantages of buying a distressed property can be many, and for some people outweigh the opportunity for financial gain. The potential pitfalls will vary somewhat depending on your desired property's current stage of foreclosure.

Overdue home repairs & sub-standard property conditions

Homes in any stage of foreclosure may require significant repairs just to make them inhabitable. Pre-foreclosures are typically assumed to be a better bet in terms of home condition, but don't forget that a homeowner is in pre-foreclosure because the owners could not keep up with their monthly mortgage payments. This might mean that they also did not have the funds to perform regular maintenance on the home or repair serious issues that arose during their occupancy.

Homes that reach the real estate owned (REO) phase of foreclosure are often in the worst structural condition. Foreclosure is a lengthy process, so a REO property has likely been sitting empty for months or sometimes years with little maintenance or care.

The result is things like mold buildup, broken pipes, and vermin or bug infestations. Evicted homeowners might have sold valuable appliances or done deliberate damage to the home. Uninhabited houses can also fall prey to thieves and vandals.

While in some stages you'll have the opportunity to inspect a foreclosure property prior to finalizing the purchase, these homes are typically sold as-is; that means no repairs can be requested as a contingency of the sale. In addition, homes in the auction or REO stage of foreclosure will not include a seller disclosure, which would have alerted you to additional problems that a typical inspection might not uncover.

Inherited burdens

When buying a home in foreclosure you might become responsible for any debt connected to the home. You could be looking at significant sums owed for unpaid tax obligations, construction loans, or home equity lines of credit. Take the time to understand the financial burdens you're assuming above and beyond your mortgage obligation.

Current inhabitants can also become problematic if they refuse to vacate the property. Legal eviction takes time and money, and disgruntled previous owners or tenants could take out their frustration on your new home.

Red tape & no guarantees

The process of buying a foreclosure property can be a long and frustrating one. Expect extra paperwork and slow response times. In the case of REO properties, it is not unusual to wait several weeks after making an offer to receive a reply either way. If you're buying a short sale you'll be waiting on all parties with an interest in the home – including the current owners, the primary lender, and any lienholders – to approve your bid. Occasionally it takes months to receive this approval.

While lenders do want to offload the property, many are also trying to get top dollar. Understand that your contract may be canceled for any reason and at any point up to closing. If a better offer is presented it's possible to lose the home.

Conventional mortgage complications

Financing a foreclosure purchase can be complex and might require the use of non-standard loan products. Some lenders do not offer mortgages for distressed properties, so you'll want to start by identifying those that do.

A conventional mortgage will be limited by the appraised value of the property; this can be problematic for foreclosed homes as the state of disrepair can lead to extremely low valuations. Conventional loans also typically have requirements regarding the condition of the property and might not approve your loan without certain repair contingencies, creating a catch-22 since foreclosures are commonly required to be sold as-is.

Any delay in the acceptance of your offer can also impact financing. Most lenders have time limits on rate approvals. Waiting for a response could result in less favorable mortgage terms if your approval expires and rates increase.

Steep competition

Foreclosure properties attract a lot of interest because of the incredible value they can provide. In addition to other homebuyers seeking a primary residence, you will be competing with investors who often make all-cash offers.

Homes in the auction stage of foreclosure are particularly attractive to seasoned investors because they often present the best opportunity to acquire property at a significant discount. Those who are unaccustomed with investigating foreclosed homes or unsure of local property values might find it difficult to compete or worse, end up overpaying for an undesirable home.

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Should I Buy a Foreclosure

Wondering if you are prepared to purchase a distressed property? If you can answer "yes" to each of these questions, buying a foreclosure could be a good choice for you.

Are my finances in order?

While buying a home in foreclosure can result in a favorable purchase price, the additional costs are often significant and should not be ignored when budgeting for your home purchase. Upfront fees to research foreclosure properties, construction and repair expenses, and the cost of any inherited liens add up quickly. Be sure you are financially prepared for expenses that are not rolled into your mortgage and think about leaving a cushion for any surprises that come up along the way.

Do I have a team of professionals who can help me?

Working with foreclosure experts will help your distressed property buying process go much more smoothly. Consider finding a real estate agent with connections in the foreclosure market to help you locate potential properties, an attorney familiar with the foreclosure laws in your area to review all paperwork, and a reputable general contractor to oversee any necessary home repairs.

Is my purchase timeline flexible?

Buying a distressed property is not like other home purchases. There will be starts and stops along the way, and the sale can fall through at any time. Homeowners in pre-foreclosure could come up with the money to put their loan back in good standing; a lender might be dissatisfied with the offers at auction and take full ownership of the home, potentially waiting months before offering it for sale as a REO property.

When considering a foreclosure purchase, homebuyers should be prepared to act quickly, but not be in any particular hurry to complete the sale. If you have timeline contingencies for your purchase, for example the sale of your current home, a distressed property will be difficult if not impossible to buy.

Will I have somewhere to live if I can't move in right away?

Depending on the condition of the property, significant work might need to be completed before you can move in to your new home. Even if the house is inhabitable, complete renovation of a kitchen or bathroom can make your residence unpleasant. Think through where you will live while any necessary repairs are performed.

In addition, sometimes a distressed property comes with previous owners or tenants who refuse to vacate the home. Legal proceedings to evict can be a lengthy process. Be prepared to wait it out somewhere else.

Am I up for the rollercoaster ride?

Buying a home at any stage in the foreclosure process is not simple. Be honest about whether or not you are prepared for the time and effort it will take to complete the purchase and get the house ready for move-in.

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