When you hear the word foreclosure, do you think of opportunity? If you are like me, you are always on the hunt for money-making real estate deals. Foreclosure investing can be a fantastic way to find your next profitable deal.
Foreclosure investing might sound simple, but it can be very complicated. To start, did you know there are three distinct stages in the foreclosure process? Did you know that each stage comes with significantly different strategies to both find and buy properties?
With that in mind, the following guide will help you better understand the foreclosure process and how to best capitalize on each stage as an investor.
Types Of Foreclosures
In general, a foreclosure happens when a homeowner fails to make their mortgage payments, and the bank or lender steps in and takes ownership of the property. However, not all foreclosures are the same. The foreclosure process can differ based on where the property is located in the U.S.
The following are the two types of foreclosure processes that you will find in the United States:
In a judicial foreclosure, the entire process takes place through the court system. Basically, to foreclose on a property, the bank or lender must first file a lawsuit against the homeowner. Once the lawsuit is filed, the court will set a date for a hearing.
If the homeowner does not show up to the hearing or does not have a valid defense, the court will issue a judgment in favor of the bank or lender. Once the judgment is issued, the property will be put up for auction and sold to the highest bidder.
I can tell you from experience, this can be a very long and drawn-out process, sometimes taking months or even years.
A nonjudicial foreclosure is a much quicker process than a judicial foreclosure. In this type of foreclosure, the bank or lender doesn’t have to go through the court system to take ownership of the property. They can bypass the need to get a court order if there is a power of sale provision included in the mortgage or loan agreement.
The power of sale provision essentially gives the lender the right to sell the property if the borrower defaults on their loan.
As a result, in states that allow nonjudicial foreclosures, lenders can simply give the homeowner a notice of default and then sell the property at a foreclosure auction. Nonjudicial foreclosures are therefore much more common nowadays than judicial foreclosures.
The Foreclosure Process
There are three distinct stages of the foreclosure process. Pre-foreclosure is the first stage of the process and includes the steps leading up to the sale, from the notice of default to the homeowners’ last chance to keep their home, called the Redemption Period.
The foreclosure sale itself is the second stage, where the trustee or the government auctions the house to pay the lender. If there are no bidders at the auction, the house is transferred to the lender.
The final stage is post-foreclosure, where the lender now owns the home, called real estate owned (REO), and often will sell it.
The following is a more in-depth explanation of the buying opportunities that exist in each of the three stages of foreclosure:
Many investors will tell you the pre-foreclosure stage is the best stage to focus on. This is because there is the least amount of competition and the best opportunities for great deals. The pre-foreclosure stage begins when the homeowner has missed one or more mortgage payments but the bank or lender has not yet filed for foreclosure.
In most cases, homeowners in this stage are still living on the property. However, they are in danger of losing their home and will often be willing to sell the property for a discount in order to avoid foreclosure.
I recommend trying to find properties in the pre-foreclosure stage as you can avoid a lot of the competition that you will find at foreclosure auctions. This is because you can deal directly with the owners and still invest in a property at a discount.
You also won’t have to wait for the property to be foreclosed on and put up for auction, which can take a long time, especially in states that require judicial foreclosures.
Some investors prefer to bid at foreclosure auctions. These auctions are open to the public, so anyone can attend and bid on any property. At times, these can be very competitive, which means you have to be careful about getting into a bidding war.
I also tend to warn investors that foreclosure auctions always come with a fair amount of risk. The main risk is that you don’t know what condition the property is in. Oftentimes, these properties are in poor condition and will need a lot of work and money just to make them livable. You won’t be able to perform an inspection before you place a bid either.
Not all properties at foreclosure auctions are a good deal, so be sure to do your due diligence in looking into the properties ahead of time. For instance, research the local real estate market, look at various comps, and view the property in person to get an idea of its condition.
Basically, a post-foreclosure property is one that has already been foreclosed on and is now owned by the bank or lender. These properties are then listed for sale, just like any other property on the market. In many cases, the bank or lender is simply trying to recoup their losses, which means they will often sell the property for a discount.
The post-foreclosure stage is by far the most common stage investors buy properties because they are almost all listed on a multiple listing service (MLS) or other public sites. They are straightforward to find and safer to buy. Once under contract, you will have time to inspect the property and do your diligence.
Who Does Foreclosure Benefit?
Although foreclosures certainly don’t benefit homeowners, they can benefit other parties. For instance, a foreclosure can be beneficial to banks and lenders. They can also be very beneficial to real estate investors. The following is a more thorough explanation of who benefits from foreclosures and how they benefit:
Banks And Lenders
Banks and lenders often benefit from foreclosures. This is because they are able to recoup some of the losses they incur when a borrower defaults on their mortgage. In most cases, the bank or lender will sell the property at a foreclosure auction or through a real estate agent in the post-foreclosure stage.
In some cases, banks and lenders may even make a profit on a foreclosure. This is because they are often able to sell the property for more than what is owed on the mortgage. For instance, if a borrower owes $200,000 on their mortgage but the property is worth $250,000, the bank or lender will make a $50,000 profit.
Investors Looking For A Bargain
Foreclosures can also be beneficial for buyers of inexpensive properties. This is because foreclosures often sell for much less than their market value. For instance, a property that is worth $200,000 could sell for $150,000 at a foreclosure auction. As such, foreclosures can be a great opportunity for investors to buy low and sell high.
Consequences Of Foreclosure
Despite the benefits to certain parties, foreclosures can have consequences as well. The following are just a few of the consequences of foreclosures on all parties involved:
- Homeowners: I certainly feel terrible for any homeowner that is foreclosed on. It means that they will likely lose their home and all of their equity. In addition, their credit score will take a hit, which could make it difficult to borrow money in the future.
- Banks and lenders: Although banks and lenders may benefit from foreclosures in some cases, they can also suffer consequences. This is especially true if the property doesn’t sell during the auction. In this case, they may be forced to list the property at less than market value in “as-is” condition, which could result in a loss.
- Investors: I always remind investors that even though they may be able to buy properties at a discount, they could also end up with a money pit. This is because they may not have the time or money to make necessary repairs before selling the property.
- The economy: Foreclosures can also have a negative impact on the economy as a whole. This is because foreclosures often lead to abandoned properties, which can then lead to increased crime rates and decreased property values in the surrounding area.
Is Buying Foreclosed Property Risky?
As an investor, buying real estate at less than its market value might seem like a win-win situation. However, I can’t stress enough how important it is to understand that every type of investment comes with some sort of risk. There’s no such thing as a “sure thing.” So if you’re thinking about investing in foreclosed properties, then be sure to consider the following risks:
- Properties are sold “as is”: This is probably the biggest risk of all when it comes to investing in foreclosed properties. In most cases, you’re going to be buying the property “as is,” which means that you’re going to be responsible for any and all repairs that need to be made.
And, depending on the condition of the property, those repairs could end up costing you a lot of money.
- Inspecting the property is not always an option: Another big risk of investing in foreclosed properties is that you might not always have the opportunity to inspect the property before buying it.
If you’re buying a foreclosure during an auction, you won’t be able to do an inspection, which means you won’t have a clear idea of what kind of condition the property is in.
- Maintenance may be costly: Not only will you have to pay for any repairs that need to be made, but you’ll also have to pay for regular maintenance and upkeep. This is especially true if the property has been abandoned for an extended period of time.
- Investors may be saddled with liens: If there’s one thing first-time real estate investors don’t think about, it’s the possibility of having to deal with things like unpaid property taxes or homeowner association dues.
Believe me, the last thing you want to do is buy a property and find out that you’re responsible for paying thousands of dollars in liens (which are legal claims against the property, such as unpaid taxes).
How To Minimize Risks When Buying Foreclosures
Even though there are risks associated with buying foreclosed properties, there are also ways to minimize those risks.
The following are a couple of tips that I recommend for minimizing the risks of investing in foreclosures:
Enlist The Help Of A Real Estate Agent
One of the best ways to minimize the risks of buying foreclosed properties is to enlist the help of a real estate agent who specializes in this type of investment. I’ve always found that an experienced agent will have a great understanding of the local real estate market.
As such, they’ll be able to identify good deals and help you avoid properties that are likely to be money pits. They can also inform you about local real estate laws, like whether you’ll be responsible for any lien payments.
Secure The Right Funding
Another way to minimize the risks of investing in foreclosed properties is to make sure you have the right funding in place before making any bids. You should have the cash on hand to cover the purchase price, as well as any repairs that need to be made. If you don’t have cash on hand, then you’ll need to get a loan from a lender who is willing to finance foreclosed properties.
As far as foreclosures go, I recommend looking into a hard money loan. Hard money loans are perfect for buying and flipping foreclosed properties because they are designed for short-term financing and can be approved within a matter of days.
Talk To An Expert Before Buying A Foreclosed Property
Investing in foreclosed properties can be a great way to make money, but it’s important to understand the risks involved before making any decisions. I highly recommend enlisting the help of a real estate agent who specializes in this type of investment.
It’s also a good idea to talk to a lender about financing options for foreclosed properties. With the right help and guidance, buying foreclosed properties can be a great way to make money in real estate.