Buying a foreclosed home: Pros, cons and a step-by-step guide

If you're struggling to afford a home, the idea that you could get a deal by buying a home in foreclosure is understandably appealing. There are three main paths for buying a foreclosure home: auctions, bank-owned listings, and short sales. Because foreclosures usually are sold as-is, you should budget for repairs and complete your due diligence before making an offer. You'll also need to know how financing may differ, depending on which path you choose.

What does foreclosure mean?

Foreclosure is the legal process by which creditors seize ownership of a property from an owner who has defaulted on a debt. Most often, a mortgage lender forecloses on a homeowner who's stopped making loan payments.

Once the home has been foreclosed, the lender or creditor typically sells it to recoup its losses from the loan. Homes owned by a bank or lender are called real-estate owned or REO properties.

Buying a foreclosed home vs. a traditional sale

Buying a foreclosed home can differ from buying a home the traditional way because the property has been claimed by a lender or other creditor.

As with a traditional home sale, you'll need to figure out how much house you can afford, save for a down payment and closing costs, and get preapproved for a mortgage.

You may need to look for foreclosed homes in different ways. REO properties may be listed on lender websites instead of general sales sites. Many foreclosed homes are sold at public auction, so you'd need to look for announcements by public agencies of upcoming sales. You also can seek out a real estate agent with experience in buying foreclosed homes.

A foreclosed home may be more affordable, but there's a greater chance it will need repairs.

You'll need to do your due diligence when buying a foreclosed home. A title search can make sure there are no competing claims to ownership, liens on the property, or unpaid property taxes. You also will want to order a home inspection to get a professional review of the property's condition, which will tell you what repairs are needed.

Most foreclosed homes are sold as-is by institutions. The owner is less likely to negotiate on the price or make repairs to the home.

A foreclosed home often requires more approvals and paperwork, which can extend the purchase process.

How to buy a foreclosed home in 7 steps

So, how do you purchase a home in foreclosure? Let’s walk through the steps of buying a foreclosed home, including several different paths to getting a foreclosed home.

Step 1: Understand the types of foreclosure purchases

Where you buy a foreclosed home affects the process, so you need to understand the types of foreclosure purchases.

Auctions

When you buy at auction a foreclosed home, you may be able to pay significantly less than its fair market value but accept the home as-is. If the home needs significant repairs, they become your responsibility upon closing. Here are the details:

• You buy from: An auction trustee, sheriff, or auction company, depending on your location.
• Before closing: You usually agree to as-is sale, without an appraisal or inspection. The property is being sold to satisfy a debt, so the seller may not provide the same disclosures as a seller in a traditional sale. You also may be unable to view or inspect the home before the auction. If you find problems with the home after the auction, it's difficult or impossible to renegotiate afterward.
• Typical payment methods: Most auctions accept only cash or certified funds. You’ll need to make a deposit on auction day (often via a cashier’s check) and the remaining balance within a short window. Financing timelines usually don’t match auction requirements, so it’s a good idea to assume traditional financing won't work unless the auction terms explicitly allow it.

REO properties

REO properties are owned by the lender and are usually sold as-is. The lender typically clears the title before selling the home.

• You buy from: A bank or servicer. This changes how offers are reviewed and how quickly you get a response.
• Before closing: These homes often are listed with an agent and may be available for tours. Inspections often are allowed, but the bank typically won’t make any repairs. Banks often require extra paperwork, such as addenda, proof of funds, and strict timelines for responses and closing.
• Typical payment methods: REO purchases may allow mortgage financing, making this path more like a traditional purchase. Mortgage preapproval helps during this process because the bank wants a buyer who can close. The as-is condition can affect financing if the home appraisal is low or the home is unsafe to live in.

Preforeclosure

Preforeclosure refers to the period where a homeowner has defaulted on their mortgage, but the court has not yet approved the lender's request for foreclosure. This means you're buying from the current owner before foreclosure is finalized.

• You buy from: The current homeowner, who is usually behind on payments. The home may not officially be on sale, even if it appears on some websites. The lender still has a stake in the home because the loan is delinquent, which can affect the sale timeline and payoff amounts.
• Before closing: The homeowner still owns the home, so you can often view the interior. An experienced real estate agent can help you tour available properties. You usually can view the home and order an inspection. Note that the home may not be in tip-top shape. The process can stop if the owner gets caught up on their payments or sells the property in another way.
• Typical payment methods: Preforeclosure purchases often are structured like traditional sales and typically allow mortgage financing. However, the timelines can be unpredictable. Don’t assume you can move quickly on a preforeclosure, because the situation may change before closing.

Short sale

In a short sale, a homeowner sells a property for less than they owe, with the lender usually agreeing to write off the difference.

• You buy from: The homeowner. However, the lender must approve the sale, which can delay the sale.
• Before closing: You typically can tour the home and order an inspection. Negotiations may involve both the seller and the lender. After the seller accepts the offer, the lender can request changes, delay approval, or decline it.
• Typical payment methods: Short sales can allow financing, but the buyer must demonstrate they can afford the property. You may be able to do this with a completed loan application, mortgage preapproval, or evidence of cash. Preapproval can strengthen your offer, but it doesn't guarantee the lender will approve the short sale.

Step 2: Hire a real estate agent

A real estate agent with experience buying foreclosed homes can help you search for properties and navigate the process. Requirements and timelines vary by state and seller, so working with a knowledgeable real estate agent can be valuable.

Step 3: Find foreclosures for sale

Although your real estate agent can help, you may want to look for foreclosures on your own. There are multiple sites to help you with your search.

• Department of Housing and Urban Development (HUD): This official government website lists foreclosed homes. Your real estate agent can contact the agent listed with the property.
• Fannie Mae HomePath: You can search for foreclosure listings, known as HomePath properties, by entering an address, city, ZIP code, or multiple listing service (MLS) number.
• Freddie Mac HomeSteps: This is Freddie Mac’s answer to Fannie Mae’s foreclosure site, with similar functionality.

Step 4: Get mortgage preapproval

Mortgage preapproval is your lender's estimate of how much you can borrow to buy a home, based on a review of your financial documents.

Because your lender reviewed your documents, preapproval shows agents and sellers that you're prepared to buy a home and can expect to get financing to close the sale.

Preapproval can help you move quickly on REO properties and short sales. Auctions often require you to pay cash or show certified funds quickly, sometimes the same day. Even if financing is allowed, timelines may be too tight for standard underwriting.

Preapprovals usually are valid for 30 – 90 days and do not guarantee final approval.

Step 5: Make a bid or offer

If you're buying a home at auction, you'll qualify for the auction and make your offer by bidding.

If you're dealing with an REO property, a seller in preforeclosure, or a short sale, your real estate agent can submit an offer letter on your behalf.

Your agent may recommend that you request contingencies, but auctions and REO sales typically don't accept them.

Step 6: Get an appraisal and inspection – if you can

An appraisal and a home inspection – if you can get them – can be crucial when buying a foreclosure.

If you're getting a mortgage, your lender will require an appraisal to ensure you aren't borrowing more than the home is worth.

A home inspection is a professional evaluation of a home's condition, including its structural safety and the performance of its major systems. An inspection will tell you what needs to be repaired, allowing you to factor the cost into your decision. Since foreclosed homes usually are sold as-is, you may not be able to ask the owner to make repairs before closing.

If you can't get an inspection, you'll need to be prepared for unexpected repairs and pay for any necessary fixes yourself.

Step 7: Close on your new home

Once the sale's cleared all approvals, including your mortgage if you’re using one, you'll close the sale. You'll need to make your down payment, pay closing costs, finalize any loan paperwork, and have legal ownership transferred to you.

If you're buying an REO property, closing may require more paperwork and take longer than for a traditional sale.

Due diligence checklist

Buyers of foreclosed homes should do everything they can to verify the home's legal status and condition. Here's what you need to review.

Title and liens

A lien is a legal claim against a property for an unpaid debt, including unpaid property taxes, homeowners association (HOA) fees, contractor or mechanic’s liens for unpaid work, and judgments or legal claims attached to the prior owner.

Some liens are cleared during foreclosure, but not all liens are automatically removed, depending on the type of lien and state laws.

When buying a foreclosed home, confirm the title is clear to avoid taking on unresolved debts or legal issues.

For example, title problems could crop up if:

• The original homeowner stopped making payments, which may mean other bills went unpaid as well.
• Multiple parties may have claims to the property dating back to before the foreclosure.
• The foreclosure process itself varies by state, and mistakes or unresolved claims can complicate ownership.

A title search is a review of public records to identify liens, ownership issues, or legal claims. A title company can conduct the search and help resolve issues before closing. You also can buy title insurance to protect you in case something was missed.

Occupancy

Some properties may still have occupants. Resolving this can take time and cost money.

Property condition

As-is means the owner won't make repairs before closing the sale. Consider the status of the following major home systems before you move forward:

• Foundation
• Frame
• HVAC
• Electrical components
• Roof
• Plumbing

Repair budget and reserves

A low purchase price can be offset by repairs, insurance, utilities, and holding costs.

Pros and cons of buying a foreclosed home

As with any major financial decision, there are advantages and drawbacks to buying a foreclosed home.

Pros

There are a few benefits of buying a foreclosed home:

• Lower prices. Foreclosed homes may be listed below market value because they're being sold to satisfy a debt.
• Standard loan configurations. You may be able to use a mortgage to buy a foreclosed home. The major exception would be a property sold at a cash-only auction.

Cons

Buying a foreclosed home also has drawbacks compared with buying an owner-occupied home.

• The home may be in poor condition. Foreclosed homes may have been neglected by their previous owners. If that’s the case, you’ll be responsible for fixing any problems after purchasing the foreclosed home.
• As-is sales. The lender’s main concern is recouping its money as quickly as possible, which almost always means an as-is sale. Consider whether you have enough cash to make repairs.
• Squatter’s rights. While a home may be legally foreclosed, it doesn’t mean it’s empty. Many foreclosed homes sit unoccupied for months or years, which can attract squatters. If a squatter lives in the home, you can legally evict them, but an eviction can take months and cost thousands of dollars in attorney fees.
• Lengthier process. Foreclosure purchases can take longer, even if the listing looks straightforward.

The bottom line: Buying a foreclosed home has its pros and cons

The process of buying a foreclosed home can vary significantly depending on whether you're buying at auction, an REO property, or from the owner during preforeclosure. It's important to note that the purchase price is only part of the equation. Repairs, title work, timelines, and other costs can materially affect the true cost. Foreclosures tend to reward buyers who plan ahead rather than rush. Therefore, it's important to take advantage of inspections and title searches and make a budget for repairs.

If you’re ready to begin the mortgage approval process, start your application online with Rocket Mortgage.