Foreclosure and Buying a Foreclosed Home: A Guide
A mortgage is a type of secured loan, with the house serving as collateral. Technically, a borrower owns the house as soon as they sign the mortgage contract, but if they fail to meet their monthly repayments and any other obligations, the lender may seek to secure the asset.
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This process is known as foreclosure. It’s something that lenders are keen to avoid and something they will only do if they have no other choice.
The Foreclosure Process
The foreclosure process differs from state to state, but in most cases, the act of foreclosure takes place after a lengthy pre-foreclosure process, during which time the lender looks for solutions that will negate some of the inevitable losses.
The process begins when a borrower misses a monthly mortgage payment. At this point, the account becomes delinquent, and if the borrower does not meet the payment demands within 3 to 6 months, the lender will seek to gain control of the property.
The lender will often provide the borrower with multiple chances to repay the debt and avoid foreclosure. But as soon as that first payment is missed, successive payments will then increase the borrower’s obligation and make it difficult for them to cover the debt.
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If they have recently lost their job and simply can’t find the funds they need to repay, they may feel powerless.
This is what happens to thousands of homeowners every year and it was a process that became all too common during the housing crises of 2008, when countless borrowers found themselves with houses they couldn’t afford and debts they couldn’t repay.
Do Banks Want to Foreclose?
Foreclosure is devastating for the homeowners, but it’s also costly for the banks. There is a misconception that all lenders are eagerly waiting for the buyer to make a mistake and miss a payment so they can take advantage and initiate the foreclosure process. Apparently, this is how lenders make their money and if they can destroy a family in the process, win-win!
But this is a rather nihilistic way of looking at things and it’s actually the opposite of what banks want. It might be true that big financial institutions don’t care much about making American families homeless, but only in the name of profit and the foreclosure process is just not profitable for them.
It takes time and money to prepare paperwork and safeguard a house in a way that prevents it from being damaged by squatters and vandals.
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And at the end of that process, they still need to find a buyer.
Foreclosed properties typically sell for much less than their market value, and this, combined with all the red tape, is why banks lose an average of $50,000 per foreclosed home.
This probably won’t do much to ease your woes, but it’s worth keeping in mind the next time you edge dangerously close to foreclosure. The bank wants you to pay and to stay in the house; they want to find a suitable middle ground. As a result, you may have some wiggle-room left, providing you’re prepared to make some sacrifices and commitments.
It has been estimated that as many as 1 in 200 American homes will be foreclosed upon, which equates to 0.5% of all households. This is the national average, however, and in some states the rate of foreclosure is much higher. Take a look at these statewide foreclosure rates to determine the risk of being foreclosed upon in your area:
- Alabama: Statewide Foreclosure Rate = 0.47%
- Alaska: Statewide Foreclosure Rate = 0.37%
- Arizona: Statewide Foreclosure Rate = 0.42%
- Arkansas: Statewide Foreclosure Rate = 0.27%
- California: Statewide Foreclosure Rate = 0.34%
- Colorado: Statewide Foreclosure Rate = 0.25%
- Connecticut: Statewide Foreclosure Rate = 0.72%
- Delaware: Statewide Foreclosure Rate = 0.96%
- Florida: Statewide Foreclosure Rate = 0.71%
- Georgia: Statewide Foreclosure Rate = 0.45%
- Hawaii: Statewide Foreclosure Rate = 0.28%
- Idaho: Statewide Foreclosure Rate = 0.16%
- Illinois: Statewide Foreclosure Rate = 0.74%
- Indiana: Statewide Foreclosure Rate = 0.52%
- Iowa: Statewide Foreclosure Rate = 0.33%
- Kansas: Statewide Foreclosure Rate = 0.23%
- Kentucky: Statewide Foreclosure Rate = 0.30%
- Louisiana: Statewide Foreclosure Rate = 0.36%
- Maine: Statewide Foreclosure Rate = 0.35%
- Maryland: Statewide Foreclosure Rate = 0.86%
- Massachusetts: Statewide Foreclosure Rate = 0.44%
- Michigan: Statewide Foreclosure Rate = 0.34%
- Minnesota: Statewide Foreclosure Rate = 0.24%
- Mississippi: Statewide Foreclosure Rate = 0.22%
- Missouri: Statewide Foreclosure Rate = 0.35%
- Montana: Statewide Foreclosure Rate = 0.11%
- Nebraska: Statewide Foreclosure Rate = 0.24%
- Nevada: Statewide Foreclosure Rate = 0.60%
- New Hampshire: Statewide Foreclosure Rate = 0.25%
- New Jersey: Statewide Foreclosure Rate = 1.33%
- New Mexico: Statewide Foreclosure Rate = 0.57%
- New York: Statewide Foreclosure Rate = 0.54%
- North Carolina: Statewide Foreclosure Rate = 0.43%
- North Dakota: Statewide Foreclosure Rate = 0.06%
- Ohio: Statewide Foreclosure Rate = 0.63%
- Oklahoma: Statewide Foreclosure Rate = 0.48%
- Oregon: Statewide Foreclosure Rate = 0.29%
- Pennsylvania: Statewide Foreclosure Rate = 0.49%
- Rhode Island: Statewide Foreclosure Rate = 0.30%
- South Carolina: Statewide Foreclosure Rate = 0.63%
- South Dakota: Statewide Foreclosure Rate = 0.07%
- Tennessee: Statewide Foreclosure Rate = 0.36%
- Texas: Statewide Foreclosure Rate = 0.38%
- Utah: Statewide Foreclosure Rate = 0.32%
- Vermont: Statewide Foreclosure Rate = 0.13%
- Virginia: Statewide Foreclosure Rate = 0.37%
- Washington: Statewide Foreclosure Rate = 0.20%
- West Virginia: Statewide Foreclosure Rate = 0.12%
- Wisconsin: Statewide Foreclosure Rate = 0.31%
- Wyoming: Statewide Foreclosure Rate = 0.27%
As you can see from the list above, many states don’t stray too far from the national average, but there are a few outliers. Foreclosed properties are much rarer in North Dakota and South Dakota and nearly 20 times more common in New Jersey.
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There is no direct correlation between real estate prices, as California and Hawaii have some of the highest prices in the United States and both have a foreclosure rate below the national average. However, debt and average wages, along with the cost of living, certainly play a role.
Buying a Foreclosed Property
A foreclosure auction is a great way to get a property at a discounted price, with up to 15% of all new home purchases coming as a result of foreclosure sales.
You can choose from an array of property types in most counties and could save up to a fifth of the market value. These houses sell for less because you can’t see them before you buy, and this puts many buyers off. You also have very little knowledge of what happened in the house and who the owners were before it was foreclosed.
If you’re looking for a new property, take a look at these tips for buying foreclosure homes:
- Understand the Rules
Buying a foreclosed home is a lot like buying a traditional home through a real estate agent, but with a few key differences.
Firstly, the homes are sold as-is and you can’t arrange viewings. In the usual homebuying process, you can negotiate with the sellers and make offers for existing furniture. If you notice a problem with the home, you can mention this and ask that it be fixed or the price be dropped.
None of these are possible when buying foreclosed homes. You get what you are given and can’t change your mind because you noticed a little mold or don’t like the carpets.
- Get a Loan Approval
Just because you’re buying from a bank doesn’t mean they will automatically finance the purchase. You need to go through the usual process of getting pre-approved for a home loan.
The pre-approval letter should be your first priority, so make sure you have this before you start shopping for foreclosed properties.
- Speak with Real Estate Agents
Foreclosed homes are sold quickly. You don’t have a lot of time to do your research and prepare your budget. But if you speak with a local real estate agent and let them know what you are looking for, they can help you.
A real estate agent will have a better understanding of the process and can learn about houses as soon as they are available.
They may have also sold similar houses and even the exact same house, which means they can offer you some valuable insight.
- Look at the Surroundings
While you won’t be given access to the house, there is nothing stopping you from paying a visit and taking a peek around the neighborhood and the grounds. Not only will this tell you more about your future neighbors, but the exterior of the house should give you a good idea of how long it has been sitting there and what state of disrepair it’s in.
Has the garden overgrown; is it filled with junk? Does the exterior of the house look like something out of a post-apocalyptic wasteland or has it retained its charm?
If you find any neighbors wandering around their yards, you can drop by and ask them some questions about the house, enquiring about the previous owners and their habits. While this won’t paint a complete picture of the interior, it will give you a good idea.
A happy, loving family is likely to have kept the home in better condition than a young couple who only used it as a party house.
- Think About Your Budget
One of the reasons houses are foreclosed in the first place is because buyers don’t budget properly. They throw all their savings on a down payment and other moving expenses and get a mortgage that essentially maxes out their monthly expenses.
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In doing so, they are constantly walking the line, and with no savings to protect them and a budget stretched to its limits, they are always one financial mishap away from complete disaster.
Make sure you budget for additional moving costs, repairs and maintenance, as well as the cost of the house itself. Set a realistic budget, don’t stretch your finances thin and don’t be tempted to go above this. It is easy to get carried away in a real estate auction, so you have to be very strict with yourself.
You start thinking, “It’s only $1,000 more” and before you know it you have bid way over your budget and a small part of you is secretly hoping someone outbids you.
What Happens if Foreclosure Listings Don’t Sell?
Foreclosed properties don’t always make it to an auction and when they do, there is no guarantee they will sell. When a mortgage lender can’t sell a property, it will often add it to its list of foreclosed properties, known as real estate owned (REO) properties.
These properties can be purchased directly through the lender and are often marketed at real estate investors.
Consequences of Foreclosure
A foreclosure will remain on your credit report for up to 7 years and could greatly reduce your credit score, making it harder for you to get lines of credit and loans in the future.
Naturally, a mortgage lender will be wary of giving you a new mortgage after seeing what happened with your last one and, as a result, you may struggle to purchase a home for a number of years.
The good news is that this won’t last forever and the damage caused to your credit report will lessen over time.
Bottom Line: Avoiding and Buying
Many prospective homebuyers will avoid foreclosure properties because they see it as profiting from the misery of others. After all, while you’re patting yourself on the back for getting a discount on a nice big house, the previous occupants are struggling to keep a roof over their heads.
But your interest in that property has nothing to do with the previous occupants and by completing a sale, you won’t be making their situation any better or worse.
This is just one of those times when you have to think about yourself, because a strange as this process might feel, the truth is that if you don’t buy the house, someone else will, and the previous occupants will be in the same dire situation regardless of who owns the house now or in the future.
As a current homebuyer, it’s important to avoid foreclosure proceedings. Of course, that’s easier said than done, but if you remember that lenders are just as keen on avoiding this process, you may be able to find a solution.
A house is your biggest and most important asset and you need to do what you can to hold onto it, whether that means getting a smaller and more affordable house in the first place or creating an emergency fund for when money dries up.