How Do I Buy a Foreclosure?.. What You Need to Know Before You Do!
Written Nov. 26, 2018 by Conor J. Green
Foreclosures in Florida are considered judicial foreclosure. They are a legal course of action that the bank takes against the lendee or mortgagee via the court system. First, we’ll go through the process of buying a foreclosed home and then get right into an extensive FAQ since there’s a lot of questions when it comes to foreclosures! If you do not see your question answered, don’t be shy; comment it below and our team will get back to you with the answer!
Intro to Foreclosures, Pre-foreclosure, and Short-Sales
As you know, homes go into foreclosure because the homebuyers are no longer able to afford their mortgage payments or simply decide to stop paying them. A foreclosure is a lengthy and risky process for a bank. Banks hate risk. Risky business is what helped fueled the financial banking crisis in 2008. Therefore, they prefer to get this “risky home” off of their balance sheet as soon as possible versus waiting for the entire foreclosure process to play out.
There are two opportunities for this to happen: pre-foreclosure and a short sale. Pre-foreclosure is a short period of time after the mortgagee and bank have realized that the mortgagee is unable to pay the monthly mortgage payment. It is the homebuyer’s last opportunity to try to sell the home to pay off the home loan balance. It is also their last chance to avoid having a foreclosure on their credit history.
What does this mean for you as someone potentially interested in buying their home? It means you are working with a motivated seller, who is more likely to accept a slightly below market price point. That’s always a plus! Instead of a pre-foreclosure, the homeowners may hold a short sale, which is where the bank agrees to accept a lower amount than is owed. As a buyer, you are in a relatively similar situation regardless and working with motivated sellers. Don’t be shocked though if you run into some seriously annoyed and temperamental sellers, after all they are under an immense amount of stress and pressure.
Steps to Buying a Foreclosed Home
1. Contact the Owner Directly About Buying Their Home
Reach out to the owner via phone, email, or by dropping by their home. As I mentioned above, you have to be sensitive to the situation they are in or you will create roadblocks for yourself. Obviously, you are looking to get a good deal out of the situation, but that does not mean you cannot also be courteous at the same time. Not interested in dealing directly with the homeowner’s yourself? Hire a real estate agent who is experienced in foreclosures to discover and qualify opportunities for you. Most agents will not have this kind of experience, so make sure you verify that before signing an agreement with an agent.
2. Inspect the Property Yourself and with a Professional
Foreclosure properties do not have to be severely beat-up fixer-uppers. They are simply properties that the owner could no longer afford. Regardless of whether it’s in a beautiful upper-class neighborhood or in the projects, you will want to do a full inspection on it. See it yourself in person if possible and take notes and pictures. Then have a professional licensed inspector come by to inspect the property and discover any issues that may be lurking under the surface. Both your notes and the inspector’s findings will be valuable when trying to negotiate your price.
3. Analyze the Inspection, Comparable Properties, and Make an Offer
It’s time to breakdown yours and your agent’s findings from the inspection to determine the extent of repairs needed to rehab the home. This will help you determine the After Repair Value or (ARV). After you have your ARV, analyze comparable properties in the area in terms of actives, sold, expireds, you can come up with what price you would like to offer. As a rough range, it is common to offer 10-25% less than market value for a foreclosed home. If you are using a real estate agent, luckily they will do this for you.
Determining your offer price and your max offer price is crucial to ensuring you maintain discipline in your investing. It is easy to get caught up in the deal and stretch to get the “win” by overbidding. This is especially true in public auctions!
Basically after the pre-foreclosure or short sale period the home will foreclose and become Real Estate Owned (REO). It means it is owned by the lender, which is usually the bank. At this point, the property will go to public auction. Public auction often has more competition and the premium price includes the cost of the lender’s expenses and legal fees to place it on auction. When possible, try to find the best deals in pre-foreclosure.
How are you financing your offer?
In general, you are either gong to be using financing or cash. It is important to note that hard money loans are normally not considered cash deals. Acting like it is on the contract (your offer) could get you into legal trouble. We mentioned before that banks hate risk. This is why they prefer cash offers to financing offers.
If you want to give yourself the best chance to have your offer accepted and approved by the bank, have liquid cash available for your purchase. Contact the lender prior to the auction to get the terms and method of payment required. Have your cashier’s check (or whatever payment method they require) ready at the auction in case you win! You will need to place the earnest money deposit on the property right away.
Earnest money is a deposit made to a seller indicating the buyer's good faith in an arrangement. Often used in real estate transactions, earnest money allows the buyer additional time when seeking financing. Earnest money is typically held jointly by the seller and buyer in a trust or escrow account. - Investopedia
4. Work Through the Paperwork
The bank will send you additional addendums and terms of the contract and there will be a processing period. It’s important to know that all foreclosures are purchased “as-is”. That is why the inspection period is so important. This inspection period is your only chance to back out of the contract and receive your earnest money deposit back if something doesn’t look or feel right to you about the deal!
If you do find issues that need to be fixed during the inspection, do not expect the bank to fix or repair anything. They are not in the home renovation business and are solely focused on selling the home for top dollar in its current condition. Buying a foreclosure home “as-is” includes having tenants potentially still living in the property and any possible liens on the property.
Hopefully everything will go smoothly with the paperwork and you will soon be the new owner of the home! Now let’s get into some frequently asked questions we’ve heard from clients!
Should we lowball the banks?
Good luck. Banks know the real estate market very well, as expected, and do not often sell properties for pennies on the dollar. If you lowball them they will most likely not even entertain the offer.
The bank’s going to pay the title insurance! That’s a good thing right?
Free is usually not free. Banks have special relationships with title companies so that they can get preferred pricing. The title companies aren’t missing out though on money, they often recover part of that margin by charging you ridiculous “settlement fees”. Make sure your real estate agent is experienced with foreclosures and familiar with this practice so you are not blindsided with these fees at the closing!
What’s the deal with the Bank Addendum?
It’s basically an overload of legal backdoors and liability covers for the bank should they want to get out of the deal. However, they usually will not back out of a legitimate deal because their goal is to get the foreclosed property off their books. Make sure to look out for the closing time clauses! It will state a daily fee that the buyer will be subject to if they cannot secure financing and delay closing.
The property is in bad shape, will the bank make some basic repairs?
Probably not. The bank isn’t as excited about the flipping business as the reality TV stars on HGTV. They are not interested in investing money into a property they are trying to simply get off their books.
Should I be worried about liens on the property?
If you are buying a foreclosure property at auction, there can be liens on the property and it is sold “as-is”. If you are buying it directly from the bank through a Realtor you do not have to worry as much about liens.
Florida foreclosure activity in the first half of 2015 decreased 22 percent from a year ago, but the state still posted the nation’s highest foreclosure rate: 1.06 percent of housing units (one in every 95) with a foreclosure filing during the six-month period. - RealtyTrac
Are short sales the same thing as foreclosures?
No because in a short sale the bank does not own the property and the property is not in foreclosure. It may be close and the owner is having a hard time paying their mortgage, which is why they are doing a short sale. In a short sale, the bank agrees to accept a payoff that is less than the balance due on the home loan in order to get rid of it, but the complications come when there is a second lien on the property. Short sales can be very tricky, make sure you consult with an experienced professional before proceeding.
Can the homeowner really redeem the property even after I have purchased it? Seems risky to me.
The short answer is, yes they can but it is unlikely to happen. As mentioned on Nolo, “In order to redeem, the homeowner would have to pay the full amount of the debt as stated in the judgment, including interest, attorney’s fees, and costs (Fla. Stat. Ann. § 45.0315)”. This is highly unlikely because this same homeowner could not afford their mortgage payment. How likely will it be that they can suddenly afford to pay it all back, including fees and expenses, within a few days? Not likely!
Should I find the right foreclosure first and then secure the financing?
You should secure the financing first. The reason is that the good deals go fast. You want to put yourself in a position to be able to move forward as a serious buyer when you find a good opportunity. If you have to wait until you secure financing after finding the right deal, you will probably lose it to another prepared buyer. Get that preapproval letter or a proof of funds (PoF) letter if you are a cash buyer.
Are a short sale and a pre-foreclosure the same thing?
They are similar but not necessarily the same. In a pre-foreclosure the seller and the lender are usually still trying to sell the home for a price that will cover their outstanding loan obligations. Most likely they began missing payments and realized they will not be able to pay it. Meanwhile, a short sale is pre-approved by the lender to sell the home for less than the loan balance. Basically, in a short sale, the bank has realized that the home will likely foreclose and they would rather maximize what they can get for the property even if it does not meet the full outstanding loan. Lenders can attempt to execute a deficiency judgment against the lendee for the difference between the sale price of the short sale and the amount they owe to the lender, which they can be held personally liable for.
What repairs should I expect to have to be made for a foreclosed property I buy?
Normally, it is recommended to assume ROI wise that the AC will have to be replaced for starters. Larger problems could be lurking underneath the surface, such as termites, water damage, or black mold. Repairs can often cost up to $50,000. The longer the property has been in foreclosure the greater your chance of more significant repairs.
What people/professionals should I look to get on my team when purchasing a foreclosure?
You are going to want to find a trained Realtor® experienced in foreclosures, a reliable home inspector, a mortgage broker or lender, and an attorney. All will help play a key role in making the process go smoothly.
Can I buy a foreclosure with an FHA loan?
As we mentioned, buyers with cash offers are more attractive to the banks than buyers financing a loan. FHA loans have more restrictions when it comes to foreclosures. With an FHA 203k loan, you can finance a foreclosure purchase and roll the repairs into the loan. The owner must move into the property within 60 days of purchase and the home must meet the strict FHA home guidelines.
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