When you’re thinking about investing in real estate, it can be tempting to consider buying a foreclosed property. Just about every good real estate agent, though, will advise against this.
So now you may be wondering, what makes buying a foreclosed property risky? There are lots of variables that go into the foreclosure process. Sometimes foreclosures can serve as a great way for you to get a good price on a piece of real estate. Unfortunately though, buying a piece of real estate at a foreclosure auction can also cause a lot of headaches, and many times it will only end in disaster.
In this guide, we’ll explore all the variables behind buying foreclosure properties – as well as tips on how to know if buying real estate at a foreclosure auction is the right choice for you. So, ready to learn what makes buying a foreclosed property risky? Let’s get started!
What is a Foreclosured Property?
The term foreclosure can be a bit confusing in and of itself since it refers both to a process (you’re going through the foreclosure process) and a one-time event (you’re buying a foreclosure).
Essentially, a foreclosure occurs when a lender has no confidence in the previous owner and his ability to make his mortgage payments. When this happens, it gives them the legal authority to remove ownership from the previous owners and to sell it at their own discretion.
The previous owner receives none of the profits from this sale with all the money going directly to the bank.
Generally, foreclosures occur when a property owner gets behind on his mortgage payments. He will receive a late notice after a few missed payments. This is the first step in the foreclosure process.
If the property owner takes the time to communicate with the bank, often, a foreclosure will not occur. Banks generally don’t want to deal with foreclosures since it costs money, time, and effort. The late notices serve as an attempt to avoid this stage.
However, if nothing happens at this point, a letter is sent that is known as a Notice of Default. Now, the foreclosure process has begun.
Eviction notices can be served as the bank acquires the title and puts the property up for a foreclosure auction or holds onto it in case there’s an upturn in the marketplace. They may also put out a notice of short sale.
The day that the property is sold is known as the day of sale or the foreclosure event. A judge will have to sign off on the foreclosure in most cases and there may have to be a home inspection as well.
What Makes Buying A Foreclosed Property Risky: Common Problems
If you’re looking to get into real estate, a foreclosed home may seem like a tempting offer. Although it is certainly possible to get a great deal on a foreclosed home, foreclosed properties tend to have some common problems. Below are some of the most standard challenges you may encounter as you consider purchasing this type of real estate.
Condition of Foreclosed Property
Often, the biggest problem associated with buying foreclosed homes is that they were given up by property owners who could not afford to make their mortgage payments – or to take care of their home’s maintenance and major repairs.
While this often happens organically as a result of the situation – if you can’t afford to make your mortgage, there’s probably a good chance that you can’t afford to pay for major repairs, either – sometimes, a home falls into disrepair because the person being evicted is embittered with the bank.
They want a way to “get back” at the lender so they may remove fixtures and appliances or even vandalize the home. Sometimes foreclosure auction properties sit vacant for a while, which is something that has a tendency to invite vandalism and criminal activity in and of itself.
Unclean or in Bad Shape
Foreclosures are known for being unclean and sometimes even abhorrently dirty because they spend so long sitting vacant. Sometimes they are inhabited by vagrants and vandalized. Even if they’re locked up tight, homes that haven’t had anyone living in them (or fresh air circulating) for several months may be suffering from a build-up of dirt, dust, and debris.
Poorly Planned Renovations
It is not uncommon for foreclosure auction properties to have undergone changes or renovations without the prior owner receiving the proper permits. For example, the past owner may have “converted” the garage into a bedroom so more people can live in the home.
There are often renovations that are only halfway complete or those that were undertaken by unlicensed, inexperienced professionals like the homeowners themselves. The work may not have been done correctly and will wind up costing lots of money to fix.
Lack of Utilities
With nobody living in a home, there’s a good chance that the utility companies have shut off services. That can include water, cable, and most importantly, electricity. Without any light, it will be hard for you to get a good look at exactly what you’re buying in some areas of the home, particularly those that don’t receive any natural light.
No Basic Maintenance
Again, if a property owner couldn’t afford to make his mortgage, he probably wasn’t keeping up with basic repairs – another reason to consider passing by that foreclosure that’s been tempting you.
Property Owner Left Items Behind
This can be a good thing or a bad thing – hey, you never know when a homeowner might leave behind some items with a high market value or potential purchase price!
In most cases, though, items that the property owner left behind are going to amount to little more than junk. There could be a lot of garbage left behind along with old furniture, clothes, and other items. You’ll be responsible for getting rid of these items when you move in just as much as you’ll be responsible for paying the property taxes!
Overgrown or Nonexistent Landscaping
Again, with nobody on-site to take care of basic repairs and maintenance, there’s also nobody to tend to the grounds. Depending on where the property is located, the landscaping could be completely dead or totally overgrown and unruly.
A small leak in the bathroom might not be a huge deal when you’re living in a home – you notice it a few hours after it springs, then call a plumber. At most, you have water leaking for a day or two.
But when a home is going through the foreclosure process, it could be sitting vacant for months. Small leaks can turn into major problems when the gathered water begins to grow mold. Burst pipes and roof leaks are even more problematic.
It is also common for homes to fall victim to vandalism during their vacancies. This may include random acts of vandalism, like broken windows and graffiti, or deliberate, such as break-ins and burglaries.
Sometimes, previous owners purposefully inflict damage, assuming it will be at the bank’s expense, doing things like punching holes in walls or tearing off baseboards.
Sometimes a homeowner will even remove items that have a high market value (or any kind of market value), such as refrigerators, doors, copper pipes, and other fixtures.
Common Buying Process Problems
It’s not just the condition of the home that you need to worry about if you’re thinking about doing a deep dive in a foreclosure sale. You also need to think about the financing process.
Issues with Financing
It is rare for a real estate agent to tell you this, but it can be remarkably difficult to get financing for a foreclosure. Often, lenders don’t want to provide financing to new owners of foreclosure properties because the home may be considered uninhabitable or might appraise well below its purchase price – even if you think you’re getting a significant discount.
If you’re paying cash and got a good deal, then this won’t be a major problem – but it’s important to keep financing in mind if you’re planning on buying a foreclosure.
There could also be delays involved with working with the owner bank. Although banks generally want to offload foreclosures as quickly as possible and will sell to the highest bidder, the reality is that buying foreclosures can actually be more time-consuming. Some banks will really drag things out trying to entertain different offers and make sure they’re going with the highest bidder out there.
Lack of Seller Disclosures
It goes without saying that nobody from the bank has ever lived in the house – so they’re automatically going to tell you that the house is in pristine, move-in condition.
They likely won’t tell you what you need to know about the home and it may be uncovered during the home inspection or by asking neighbors – buy a foreclosure property too quickly, and you might not have time to do this kind of research for yourself.
When to Consider Buying a Foreclosed Property
There are several situations in which it makes sense to buy a foreclosed property.
One is when you are interested in purchasing an investment property. The foreclosure market is hot, with these properties priced much lower than other nearby properties that recently sold.
You don’t have to worry about being scammed since the vast majority of the foreclosure process is in the hands of title companies, title insurance, home inspectors, banks, and legal authorities.
As long as you close with a title company and purchase title insurance, you can’t go wrong.
In most cases, it’s safe to buy a piece of real estate during the notice of sales as well as when you are buying directly from a seller who received a notice of default. Again, just make sure you work with a title company and buy title insurance.
When buying a foreclosed property becomes a risky business is when the piece of real estate gets put up for auction.
Auctions do not allow for home inspections and you won’t be able to see the interior. It can be a huge risk and end up turning into a huge money pit.
You’re essentially buying an investment property sight unseen. Be cautious if you decide to buy a foreclosed property at an auction. Not only can you end up spending a great deal of money on repairs, but you also won’t know other information about the house – like whether there’s a second mortgage on the home (which you’ll be liable for when the property is transferred to you).
Foreclosure auctions also require cash at the time of sale so you can’t often get conventional financing or a down payment. You’ll have to pay within 48 hours. Because of this, only buy foreclosure properties outside of auctions – and follow the other tips above for knowing when it’s a good idea.
Always make sure you work with a title company that can do the research you need on your prospective property. That way, you’ll have the information you need to make an informed decision.