• When a borrower fails to pay their mortgage, the lender can foreclose on the home. This means the lender takes possession of the property and can sell it to a new owner to help offset their losses.    
  • Foreclosed homes are often offered to new buyers at prices below market value. However, these homes are not always in the best condition, so buyers may need to invest time and money to repair or renovate the property. 
  • Financing options and assistance, including conventional loans, government-backed loans, and specialty programs, are available to help you buy a foreclosed home.

Whether purchasing an investment property or buying a new home to serve as your primary residence, foreclosed homes offer a unique path to property ownership, often at a discount.

Learn how to buy a foreclosed home, as well as the benefits and drawbacks of foreclosure purchases, with this step-by-step guide.

How To Buy a Foreclosed Home

Buying a foreclosed home follows the same basic steps as buying a traditional seller-owned home. However, each step may contain some nuance when looking specifically at foreclosures.

Before discussing each step in detail, it’s worth reviewing the basics of foreclosure.

Understand Foreclosure Basics

Foreclosures occur when a borrower fails to repay the mortgage as scheduled.[1] Borrowers who cannot keep up with their mortgage payments should always contact their lenders to inquire about options.[2] Lenders want to help borrowers avoid foreclosures whenever possible. Loan modifications, refinancing, or hardship assistance can potentially reduce or defer monthly payments to help borrowers retain possession of their homes.

In some cases, the borrower and lender are unable to find a solution to keep the borrower in the home. When this happens, the lender seizes the property through the foreclosure process. The lender can then sell the property to a new buyer. 

Types of Foreclosure Sales

There are several different ways to buy foreclosures. You may even be able to purchase a property at risk of foreclosure directly from the homeowner before the foreclosure proceedings occur.  

Foreclosure Auctions (Sheriff’s Sales)

Foreclosure auctions, often called Sheriff’s sales, take place after the lender has notified the borrower that the loan is in default and granted a grace period to help them catch up on their payments.[3] This type of foreclosure sale offers a quick path to ownership for the new buyer and a quick disposition of the asset for the lender.

These auctions are often held on the courthouse steps and managed by local law enforcement.[3] The place, date, and time of the auction must be made available to the public, typically through local news sources.

Some auctions require cash-only buyers,[4] while others may accept bidders who have been pre-approved for a suitable mortgage.[3] Most homes are auctioned off as-is, meaning that the condition of the property is not guaranteed.[3]  

Real Estate Owned (REO) Sales

If a property fails to sell at auction, ownership typically reverts back to the lender. These bank-owned properties are commonly called REO, referring to the accounting line item these assets hold on the lender’s ledgers, and they are typically listed for sale on the open market.[5]

Purchasing an REO property is just like purchasing any other home, except that you’re buying from the bank rather than a private seller.   

Government-Owned Foreclosures

Multiple departments of the U.S. government actively make homeownership more accessible by either backing home loans or lending directly to buyers. In case of default, these departments may foreclose on mortgages like a traditional lender.[6]

Pre-Foreclosure Sales

Foreclosures do not happen overnight. Borrowers are served notice that the mortgage is in default and offered a grace period to catch up on payments or find another solution before the foreclosure proceeds.[7]

One possible solution for the borrower is to sell the property before losing it to foreclosure. These sellers are motivated to sell quickly, often accepting less than market value in exchange for a fast, hassle-free sale that allows them to avoid foreclosure. 

Short Sales

Short sales occur when a borrower is “underwater” on their mortgage, meaning they owe more on their home loan than the property is currently worth, but needs to sell. 

Borrowers can go underwater when property values decline quickly due to sudden market shifts. In most cases of underwater mortgages, borrowers simply continue to pay their mortgage as scheduled and wait for the market to rebound. However, if a borrower needs to sell while underwater to avoid foreclosure, they can do so through a short sale.[8]

In a short sale, the lender must approve any purchase offer because they are accepting less than they are owed for the property. This approval process can cause longer-than-normal wait times for short sale buyers.

Get Pre-Approved for Any Financing Needed

If you plan to use financing to buy a foreclosed home, it makes sense to get pre-approved for a mortgage even before looking for properties. The mortgage pre-approval process can confirm your ability to qualify for a mortgage and inform your buying budget. It can also strengthen your future purchase offer(s) by assuring the seller that you are likely to qualify for the financing needed to complete the purchase. 

For a quick pre-approval that won’t affect your credit score, consider a preliminary pre-approval.

Hire a Real Estate Agent

Real estate agents are an excellent resource for local market information. An agent with foreclosure experience can help you find properties that match your criteria, advise you in negotiations, and guide you through the entire process.   

Search for Foreclosure Sales

You can find foreclosed homes for sale through:

  • Your real estate agent.
  • The multiple listing service (MLS), which is a database of local properties for sale. Access to this database may be limited to licensed real estate professionals.
  • Property data subscription services, which often combine MLS data with public records data to provide detailed information on foreclosures and even pre-foreclosures. 
  • Local news publications, which often list information for auctions. 
  • Bank websites, which may list REO properties for sale.
  • Government websites, which may list government-owned properties for sale. 
  • Fannie Mae and Freddie Mac, which are quasi-government agencies that are involved in the secondary mortgage market and offer foreclosure purchase opportunities. 

Make an Offer

If purchasing at an auction, your bid represents a legally binding offer. If you are the highest bidder, your offer is accepted.[3]

If purchasing a foreclosure through other means, you (or your real estate agent) can draft a purchase offer outlining your terms. The seller can accept, decline, or counter with terms of their own.

Complete Due Diligence and Close the Deal

The traditional due diligence process includes:[9]

  • A home inspection, to assess the physical condition of the property
  • An appraisal, to confirm the fair market value of the property
  • A title search, to uncover any other parties with any claim to the property

When buying at auction, you may not have the opportunity to conduct due diligence before purchasing. This is one of the reasons auctions are best reserved for experienced investors with the skills or network to tackle unknown issues with the physical or legal condition of the home.

Benefits of Buying a Foreclosed Home

  • The purchase price may be well below the fair market value.
  • When purchasing via auction or pre-foreclosure, the buying process can be completed quickly.

Drawbacks of Buying a Foreclosed Home

  • The property may not be in good condition.
  • The financial risk is greater when dealing with unknown conditions, as is often the case when purchasing at auction.
  • You may have heavy competition from professional real estate investors. 
  • When purchasing via short sale, the buying process can be slow.
  • Other parties may have claims against the property. For example, the property could have tax liens or mechanic’s liens that need to be paid. If the property has been vacant for some time, it’s possible that squatters have moved in and may need to be evicted through a lengthy legal process.

Financing Options for Foreclosed Homes

While foreclosure auctions often require cash, other foreclosure types may accept financing. If you’re considering financing a foreclosure, contact a mortgage loan officer to discuss financing options, including: 

  • Conventional loans. Conventional mortgage loans are the most popular option for homebuyers. In addition to primary residences, they can be used to purchase investment properties. 
  • Government-backed loans. If this home will serve as your primary residence, you may qualify for a low-down payment loan, backed by the government. FHA loans, for example, offer down payments as low as 3.5% to well-qualified borrowers. There is also an FHA 203(k) loan that provides funding to repair and renovate the property, which is especially useful when buying foreclosures. Military service members and veterans can also consider VA loans. And moderate-income buyers in rural areas can consider USDA loans.  
  • Fannie Mae and Freddie Mac programs. With Fannie Mae's HomePath ReadyBuyer, buyers can receive closing cost assistance and other benefits, and with Freddie Mac’s HomeSteps programs, buyers can avoid buying mortgage insurance.    

The Bottom Line

You may be able to save money on your new home or investment property by purchasing a foreclosed home. However, these properties often come with challenges like competition from professional investors and deferred maintenance.

Before buying a foreclosed home, thoroughly research the property to confirm its condition, value, and any other claims against it. If you plan to use financing, spend a few minutes getting your preliminary pre-approval to streamline the loan approval process when you find the right property. And seek professional assistance from a real estate agent and/or attorney to reduce financial and legal risks.   

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