Investment Basics: Pros and Cons of Buying a Foreclosure

Whether you want to buy a foreclosure to flip or buy-and-hold to rent, there are countless factors to consider.

Many inexperienced property investors look at foreclosures as amazing deals, but there are a few things that you need to know before buying one. You might want to pause for a moment before you drop an offer on that decrepit old house.

Of course, there are benefits to buying a foreclosed home, but don’t neglect the drawbacks. These purchases are typically not for inexperienced investors.

Advantages of Buying a Foreclosed Home

There are many reasons why people invest in foreclosed properties, and the biggest is that they’re often sold for less than market value. But there’s a reason for this: Foreclosure sales usually have fewer competing buyers.

The result? You can get a bargain on a home – but you’ve got to be prepared to do some work!

Foreclosures Sell for Less than Market Value

The pro to buying a foreclosure is that it is often an affordable investment. Many times, foreclosures are sold for half of their market value. The price will vary depending on the area you live in, but typically you can find them for around 15%-20% below market value.

In essence, a homeowner became late on payments for their house. The lender is now foreclosing on the house to recoup their money on the home.

Competing Against Fewer Buyers

In most cases, foreclosures are being sought after by a small group of investors. These may range from individuals to large teams of investors looking to take the property on. Regardless, you usually don’t have families looking to make the house their home to compete with.

The benefit of this is that you’re not competing with families with their hearts in the home buying process. Instead, you’re competing with other investors that are only going to purchase the property if the numbers make sense in their ledger.

Disadvantages of Buying a Foreclosed Home

Sure, buying a foreclosed home is often cheaper than buying a new house, but there are some disadvantages to consider.

Foreclosed homes can have severe damage from vandalism or neglect and may need costly repairs before they’re livable again.

Make sure you know what kind of work needs to be done on the property before buying it.

All-Cash Purchases

Most foreclosures are auctioned off, and payment is due shortly after the auction, if not immediately. This means that you’ve got to have all cash when bidding.

You won’t get a mortgage before the auction, which makes it difficult to compete with investors who have all cash or hard money. It can be frustrating if you lose out on a solid investment because of this process.

One option that might be suitable is obtaining a hard money loan and purchasing the property with that. Once you rehabilitate the property to lender standards, then you can consider financing with a VA, FHA, or conventional loan.

Responsible for All Liens and Taxes

Since the bank is offloading the property to recoup their investment, the side effect is that you inherit all legal problems associated with the property.

Anyone with a vested interest in the property through a lien – or the government with taxes – still wants the cut.

All of the liens and taxes associated with the property you pick up at auction become your responsibility. Be sure to check out the county clerk’s office to see any outstanding liens on the property.

No Walkthroughs

Mama always said life is like a foreclosure; you never know what you’re going to get.

That’s true, albeit mama probably never said that.

If you find out about the auction in advance, you can drive by or walk up and look through a window of a foreclosing home, but that’s about the extent of it.

You probably will not be able to find a real estate agent to open the door for you and definitely will not be able to get a home inspection.

Make sure you give yourself a cushion while calculating the expenses of this rehab project.

These Homes Are “As-Is”

Foreclosures are often a great deal in terms of market value in the area you’re purchasing; however, they usually have their fair share of required renovations.

Foreclosures Often Need Major Repairs

Remember, the previous homeowners weren’t invested in the property like you are as they quit paying a long time ago. They might’ve even been disgruntled on their way out and damaged a few things as they left.

The property might have been vacant for some time and even had squatters before the auction.

So grab your gloves and roll up your sleeves. You’re probably going to have to do some work on these properties.

If you’re willing to invest time and energy into making these homes livable again, then it’s worth considering.

How to Know if the Property is a Good Deal?

After learning all of the pros and cons of buying a foreclosure, you’re still interested in going forward with it.

Is it a wise purchase?

Many investors have lost big with foreclosures as the purchase price was incredible, only to find that the repairs and renovations cost more than they could get for the home.

Please talk with a professional contractor and get some rough estimates from them. How much is the flooring going to cost? Does it need a new roof? Definitely “worst-case” these scenarios, as you don’t know to what extent the damage is.

If your worst-case scenario still makes sense financially, then you might want to move forward with bidding. Then, if the repairs are not as severe as you expected, you’ll walk away with better investment.

Ready to Buy a Foreclosure?

Keep in mind that laws and regulations for foreclosures may vary from state to state. Additionally, lenders may handle their foreclosures in different ways as well. Regardless, a local Realtor can help you navigate the process.

Whether you’re a brand new investor or a seasoned pro, these are just a few pros and cons of buying a foreclosure.

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