3 Reasons to Avoid Buying a Foreclosure

By Tali Wee of Zillow

Home foreclosures occurred in healthy real estate markets in the past, but became far more prevalent after the housing market crashed in 2007. Foreclosed properties are bank-owned homes, also referred to as real estate owned (REO) properties. Banks foreclose on properties after 90 days of mortgage nonpayment. Homeowners default for many reasons, including loss of their jobs, unrelated financial stressors or intentional nonpayment to escape severely underwater mortgages.
3D red glass house

Regardless of why homeowners default on their mortgages, banks repossess foreclosed homes and resell properties to recuperate their losses. Because banks are moving quickly, they price properties competitively – appealing to investors and home shoppers on tight budgets.

For-sale inventory is tight, particularly in competitive markets, enticing home shoppers to consider REO properties at reduced prices. However, price point isn’t the only influencing factor in purchasing a home. Before making offers on foreclosures, evaluate these three disadvantages.

  1. Competitive Sales

Banks aim to offload REO-related property taxes and liabilities as soon as possible. They price properties to sell, and accept the lowest-risk offers to avoid lengthy closing processes. Banks seek all-cash offers or offers from preapproved buyers with trustworthy credit and sizable down payments. Most first-time buyers cannot compete with investors who swiftly identify quality REO homes, move quickly making enticing offers and close without financing procedures.

Additionally, if experienced real estate professionals don’t make offers on an REO property, first-time buyers are wise to avoid it, too. Investors often look for homes to flip, and even buyers shopping for fixer-uppers should carefully heed the warning of disinterested experts.

  1. As-Is Condition

When house hunters visit REO properties, they don’t have the luxury of visualizing their lifestyles in nicely-staged environments. Foreclosed homes often sit vacant on the market for a period of time before they’re purchased. So, buyers must stay open minded to see the potential in each property. Consider too that vacant properties sometimes don’t have electricity to power lights for walkthroughs.

Further, buyers of foreclosed homes do not receive property disclosures. Since banks are unfamiliar with the history of properties, buyers accept the risk of purchasing homes with unforeseen damages. It’s unlikely that previous homeowners who couldn’t afford their mortgages were prioritizing property maintenance, leaving repairs for future owners. Buyers should hire thorough home inspectors to survey properties before making offers.

Unlike other for-sale listings, buyers cannot negotiate with sellers (banks) to make upgrades to properties before closing. Banks intentionally price properties low accounting for buyer upgrades. Buyers of foreclosures must prepare to purchase homes in as-is condition.

  1. Long-Term Vacancy and Vandalism

In addition to the aforementioned vacancy concerns, some REO properties remain vacant for extended periods of time. Pipes freeze in the winter when homes aren’t heated, bursting and causing costly water damages. Rodents and even homeless transients take refuge in abandoned properties. Before making offers, buyers need to evaluate the health concerns and total costs of repairs to create livable conditions in REO homes.

Banks sometimes permit short sales when borrowers are underwater on their mortgages. Short sales occur when banks accept the resale of a property for lesser value than borrowers currently owe. Short sales are sometimes more cost-effective for banks than allowing 90 days of nonpayment followed by property marketing resale. In many cases, banks do not permit short sales resulting in disgruntled homeowners.

Upset, angry or financially stressed homeowners facing foreclosure often strip properties of removable, valuable features and even intentionally vandalize properties as retaliation. Buyers should account for the costs of replacing appliances and fixtures including dishwashers, sinks, toilets and light fixtures. A foreclosure property may not be worth the inexpensive price tag if countless big-ticket items are missing.

In all, buyers have numerous factors to consider when shopping for homes; one of the major influencers is price. REO properties may meet that objective at first glance, but the challenges of competing for a quality home, the risk of unforeseen damages, the health concerns of unkempt properties and potential costs of stripped appliances may dilute the bargain.

  • Kristi Young

    Once again, Zillow completely misses the mark on real estate! I’ve personally done 97 distressed home sales in the past 12 months (yes, they are still available, and yes, in Orange County California). I am an REO agent with multiple REO accounts and I can say, without a doubt, that my asset managers would ALWAYS give preference to an owner occupant over an investor — every time! I’ve even seen one (from a very well-known bank) take less from a first-time homeowner with an FHA loan than a quick-close cash offer. As for condition, most REO companies do trash-outs, clean, and may even paint and carpet to make the home show competitively. ALL of our REO properties have utilities on while HUD homes do not. My current primary residence was an REO (purchased in April 2012). And with about $10k in upgrades, I now have approximately $180k in equity!!! Who can argue with that?!? I just wonder how many REO properties Tali Wee has sold/purchased.

  • Sue Bernstein

    Typical article from Zillow. This article was obviously written by someone with absolutely no REO experience as so much of it is wrong or misleading. Almost as good as Zillow’s thinking they know market value of homes. 1. Many banks (fannie mae especially) give first dibs to first time buyers and investors have to wait weeks before they can submit offers. 2. No sane sellers allow buyers to do upgrades before escrow closes. 3. Many banks do repairs or give credits to buyers for property condition.

    I could go on and on. Next time publish articles by someone with actual experience.

    • Heather Harmon

      I was thinking the same thing…and you took the time to write it all up. Good for you!

    • NormaJFHarrison

      Many people buy depressed property at great advantage to their situation. This ignores that – as though it doesn’t happen.

  • RE_Insider

    One of our readers sent me this email regarding this story and I thought I would share it with all of you.

    Bank foreclosures take a long time to be repossessed, hence the property is neglected during this process, and perhaps for years prior as well. Foreclosures will require more cash from buyers. The price may be just slightly lower than market value, but by the time all repairs are done you have spent more money than a house that is a standard sale. And banks warranty NOTHING. Its a gamble.

    In my opinion, it is smarter to purchase a home that has been maintained, than a property that has been neglected for a period of time. There are many unseen defects and become evident as you repair.

    Today you can finance your dream home at historically low rates and get what you want. Plus you have all kinds of disclosures and warranties. You know what you get. And You have recourse.

    That’s a big piece of insurance the majority of people require when making an investment in real property. Don’t walk over a dollar to pick up a dime.

    Joan Ross
    Remax Real Estate Consultants