Should I Buy a Foreclosure?

Many different kinds of buyers speak with me about their interest in buying foreclosed, REO, bank-owned, or otherwise distressed properties. Whether they are investors looking to improve their returns, first-time buyers interested in big savings on a fixer-upper, contractors wanting to "flip," or those with an eye for potential and no aversion to hard work: this is a popular topic in our post-recession economy!

However, there is a lot of confusion in the general public, and even among real estate professionals, about the various merits and risks in this sector of the market. It is my hope that the following observations will be helpful to the many buyers interested in foreclosure properties.

First, it is important to clarify some terms:

A property is REO or "Real Estate Owned" when the mortgagee has successfully sued for foreclosure and taken possession. The legal "dust" has settled here so to speak. These properties are usually listed with a broker, and you can usually go check them out, just like any other property listed with an MLS. These are what many people seem to think of when asking me about "foreclosures." I consider "bank-owned" as synonymous with REO.

Zillow has a category of properties they call "pre-foreclosure." I've received many questions about this. Basically, foreclosure is a process that begins with a default by the borrower (or mortgagor) and continues with a suit by the lender (or mortgagee), and ends with an auction. Properties that are "pre-foreclosure" are properties in default, have been successfully sued and "foreclosed" by a court, and are now up to be sold to the highest bidder at the Sheriff Sale. Many times the suing plaintiff (the lender) takes the property at the sale (and thus the property becomes an REO). But, during this process, a third party can step in and win the bid. There are big risks for the third party, but also potentially big gains.

You may want an REO property if:

  • You have no time constraints.
  • You are willing to have an offer rejected with little or no explanation.
  • You don't expect to get any information about the property from the bank (REO's don't come with the same kind of extensive disclosures in PA).
  • You know a good contractor or home-improvement is fun for you.
  • You have a knowledgeable agent to represent your interests (REO properties are listed by agents, but they represent the interests of the banks, not you).

You may want to bid at the Sheriff Sale if:

  • You have no time constraints.
  • You have a clear idea of how much you are willing to bid based on a financial assessment of the property's value.
  • You are willing to lose your bid.
  • You are willing to wait if the plaintiff postpones the sale, and you don't expect an explanation about the reasons for the postponement.
  • You are willing to pay to evict current occupants.
  • You are willing to assume ownership of the property without inspecting it, unless you make a deal with the current occupants.
  • You are willing to buy foreclosure insurance the minute you take the property at the sale (in case the current occupants decide to burn it down, or strip out all the fixtures, pipes, etc).
  • You can pay the entire bid, in cash, the same week of the sale. This rule differs from place to place, but in Pittsburgh, you need to pay 10% in cash (or cashier's check) immediately upon a successful bid, and then the remainder by Friday of the same week of the bid.
  • You are willing to pay for a title search on the property in which you are interested, before you bid so as to ensure you won't be fighting claimants to title in court for the next several years.
  • You have a real-estate lawyer on call to give you advice.
  • You have a knowledgeable agent to help you determine whether or not a particular property may be a good deal.

So, although REO and sheriff sale properties carry significant risks, with the right research, preparation, and expectations; buying one of these properties can be a big win!

Jay Villella