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

Have you ever considered buying a foreclosed home? As you might imagine, you’ll need to know what you’re looking for and how to shop for a foreclosed home.

There are different ways to buy a foreclosed home and buying one doesn’t necessarily mean you’ll be knee-deep in renovations. It’s important to understand the buying process and timelines involved, as well as the pros and the cons associated with each option.

What does foreclosure mean?

A foreclosure happens when a home is seized by a lender. When you see a home listed as foreclosed, it means the lender owns it.

Every mortgage contract places a lien on a property. A lien allows a lender to repossess a house if an owner stops making the mortgage payments. Foreclosures are typically the result of a homeowner’s inability to keep up with their mortgage.

Buying homes that are foreclosed is a little different from buying a house owned by an individual.

Buying foreclosed homes vs. traditional route

Buying foreclosed homes vs. going the traditional home-buying route might look similar in some ways. In both cases, you’ll calculate how much you can spend on a home, save for a down payment and closing costs and get preapproved for a mortgage.

However, the method for finding a foreclosed home may look different. For example, you may spend more time searching for foreclosed homes on credit union or bank websites or attending auctions rather than using more traditional search methods.

In addition, you’ll typically buy the home from the bank or lender, rather than from an existing homeowner. Foreclosed homes can be fantastic investment options due to lower prices, but you may see unique issues in foreclosed homes, which we’ll unpack.

Read on to learn more about how to buy a foreclosed home.

How to buy a foreclosed home

Do you think buying a foreclosure is right for you? Here’s exactly how to go about it:

Step 1: Understand the types of foreclosure purchases

There are two main ways to purchase a foreclosure: at auction or from a lender after they failed to sell at auction. However, you can also pursue options to purchase homes on the cusp of foreclosure.

Auctions: When you purchase at an auction, you agree to buy the home as is without an appraisal or inspection. But you’ll get a home faster at auction than you would negotiating with a bank or seller, and home buyers can buy a property significantly below market value at auction.

Most auctions only accept cash payments, which means you’ll need a significant amount of money available for the purchase. If the auction allows for mortgage financing, make sure your initial approval is ready. We recommend applying for Verified Approval,¹ where your income and assets are verified.

You’re taking on a big risk when you buy a foreclosed home at auction, so speak with a real estate attorney if you’re interested in this type of purchase.

Bank-owned properties: You skip working with a homeowner when you purchase a property from a lender’s real estate owned (REO) inventory. The lender usually clears the title and makes sure it’s vacant before you buy the foreclosed property.

Most lenders won’t sell bank-owned properties directly to a buyer. You must talk to an experienced real estate agent to see any available properties. These homes are usually sold as-is, but you can typically view the home and order an inspection before you close.

Preforeclosures: A preforeclosure is a property in the early stages of foreclosure. Purchasing a preforeclosure can be a win-win situation. You can buy a home at a lower price while the homeowner can avoid the final stages and credit impacts of a foreclosure.

Many databases, including the multiple listing service (MLS), tag homes in preforeclosure, so assembling a list of potential preforeclosures is relatively straightforward.

You’ll need to look more deeply into the situation of any home listed as a preforeclosure. The database won’t offer a complete picture, just indication that a homeowner received a notice of default from their lender.

The home may never go on sale, or the current owner may be eager to work on selling it to you to offload the property – presenting you with a great opportunity.

Short sales: A short sale occurs when a homeowner sells a home for less than what they owe on the mortgage. A foreclosure hasn’t been finalized, but not all short sale properties are in preforeclosure yet. If the homeowner still owns the home, you can work with their REALTOR^® or real estate agent.

When you buy a short sale home, the lender (not the homeowner) must approve your offer. And you may spend a lot of time waiting for approval.

Step 2: Hire a real estate agent

Most lenders hand foreclosed properties off to an REO agent who works with traditional real estate agents to find a buyer.

Not every real estate agent has experience working with REO agents. A qualified foreclosure agent can help you search for foreclosures, navigate your state’s REO buying process, negotiate your purchase price, order an inspection and make an offer.

Step 3: Find foreclosures for sale

Although your real estate agent can help you search for foreclosures, you may want to investigate for yourself. There are multiple sites to help you with your search. Here are three we recommend:

• 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, ZIP code or MLS number.
• Freddie Mac HomeSteps: This is Freddie Mac’s answer to Fannie Mae’s foreclosure site. It has similar functionality.

Step 4: Get preapproved for a mortgage

Unless you buy a home at a foreclosure auction, you’ll probably get a mortgage to fund your purchase. Once you’ve found an agent and started looking at homes, you should get preapproved for a loan. A mortgage preapproval is an initial approval that lets you know how much you can borrow for a home purchase. Consider applying for multiple preapprovals to help narrow your mortgage lender search.

Step 5: Make an offer

Next, your real estate agent will submit an offer letter on your behalf to the bank, government agency, or auction organizer, though you can write the letter yourself if you prefer. You can also make an offer to the homeowner if you plan to buy a preforeclosure.

The offer letter will contain details like your name, current address and the amount you’re willing to pay for the foreclosed home. It will also include your earnest money deposit, which communicates your seriousness about the purchase. The earnest money deposit typically runs between 1% – 3% of the purchase price, and it goes toward your down payment and closing costs. (Note that you’ll likely lose your deposit if you back out of the sale later.)

If a bank or credit union holds the property, be aware that it could take some time for them to respond to your offer, particularly if the bank manages a substantial number of foreclosures.

Step 6: Get an appraisal and inspection

Inspections and appraisals are crucial when buying a foreclosure.

An appraisal is a lender requirement that estimates the dollar value of a property. Appraisals help ensure lenders aren’t lending borrowers too much money. For a buyer, an appraisal helps confirm that you’re not overpaying for a property.

A home inspection involves a professional home inspector taking an in-depth look at the inner and outer workings of a property. They’ll walk through the home and record everything that needs to be replaced or repaired. Because foreclosures often need extensive repairs, you should insist on an inspection before buying a foreclosed home.

Sometimes, you don’t get the chance to order a home inspection or appraisal before you buy. In that case, you should only consider buying a foreclosed property if you’re skillful with home repairs, or have another plan to make extensive renovations.

Step 7: Purchase your new home

Read your inspection and appraisal results to help decide whether the home is right for you and whether you’re OK buying the home as-is. 

Contact your mortgage lender to finalize your loan if you have the money or skills to make any renovations. Your real estate agent will help you submit your offer and prepare you for closing.

Benefits of buying a foreclosed home

There are a few benefits of buying a foreclosed home:

• Lower prices: One undeniable benefit is that foreclosed homes almost always cost less than other homes or are listed below market value. That’s because they’re priced by lenders who want the homes off their books.
• Standard loan configurations: You may be able to get a loan to purchase a foreclosed home as long as the property isn’t being sold at a cash-only auction. You can get a conventional loan or a government-backed Department of Veterans Affairs (VA) loan, Federal Housing Administration (FHA) loan or U.S. Department of Agriculture (USDA) loan if the home is in livable condition. Rocket Mortgage^® doesn’t offer USDA loans at this time.

Drawbacks Of Buying A Foreclosed Home

Buying a foreclosed home is riskier than buying an owner-occupied home. Below are some drawbacks of buying a foreclosed property.

• Increased maintenance concerns: 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 their money as quickly as possible, which, in almost every instance, means an as is sale. You shouldn’t buy a foreclosed home if you don’t have enough cash to invest in 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.

Considerations before buying foreclosed homes

If you get lucky, your foreclosure may not have any problems at all, but it’s possible it may harbor hidden problems. An inspection can raise awareness of what needs attention before you purchase. (If you’re a DIY enthusiast, this might not faze you at all, but it’s still important to know about potential repairs before you buy.)

Consider the status of these major home systems before you move forward:

• Foundation: What’s going on with the home’s most basic layer? An inspection can reveal uneven floors, sinking, out-of-alignment doors and other problems, which can signal foundation issues.
• Frame: A home’s frame provides structure to the house and includes walls, floors, ceilings and stairs. An inspector may find compromised structural integrity in these areas.
• HVAC: The HVAC system refers to a home’s heating, ventilation and air conditioning components. An inspector will check the HVAC system for refrigerant leaks, malfunctioning parts, adequate airflow and more.
• Electrical components: All electrical components must function well for safety reasons, and an inspector can check for tripping breakers, corrosion, melted wires and other electrical hazards.
• Roof: Does the home have roof damage? An inspector will carefully check the roof for damaged shingles or flashing, leaks and incorrect installation.
• Plumbing: Inspectors will also check out the plumbing system’s pipes, fixtures, and septic system to ensure they’re functioning correctly. If not, you could be on the hook for thousands of dollars.

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

Buying a foreclosure can be a unique opportunity for home buyers who want to pay lower prices or below market value or are eager to customize and fully restore a home.

If you’re ready to begin the mortgage approval process, start your application online today!

¹Participation in the Verified Approval program is based on an underwriter’s comprehensive analysis of your credit, income, employment status, debt, property, insurance, appraisal and a satisfactory title report/search. If new information materially changes the underwriting decision resulting in a denial of your credit request, if the loan fails to close for a reason outside of Rocket Mortgage^®’s control, or if you no longer want to proceed with the loan, your participation in the program will be discontinued. If your eligibility in the program does not change and your mortgage loan does not close, you will receive $1,000. This offer does not apply to new purchase loans submitted to Rocket Mortgage through a mortgage broker. Additional conditions or exclusions may apply.