Buying a foreclosed home can be a great way to generate a high return on your investment. Foreclosed properties tend to be severely underpriced and as long as you carry out a proper investment analysis, you stand to benefit tremendously from these homes. Having said that, opting for foreclosed property is not a risk-free strategy. In fact, several things can go wrong during the purchase if you are not careful enough. So what are these foreclosed property risks? Is there a way to mitigate them? And is it a good idea to buy a house in foreclosure despite these risks? In this blog, we will take a look at what makes buying a foreclosed property risky and provide you with simple ways to reduce risk when investing in foreclosed property.
Related: Buying Foreclosed Homes to Rent Out: A Step-by-Step Guide
Buying Foreclosed Property: What to Expect
Before delving into the risks of buying a foreclosed home, we must first define these investments and outline what they offer to a real estate investor. A foreclosure occurs when a property owner is unable to meet their debt obligations. More specifically, it is a legal process by which the property is auctioned off to the public when the owner can’t pay their mortgage or offload the home through a short sale. Here are some of the benefits of investing in foreclosure homes:
- Buying a foreclosed property offers you a good opportunity to snap up a below market value real estate investment.
- Buying a foreclosure gives you access to more affordable financing. Both the down payment and the monthly expenditure will be lower than traditional loans.
- Acquiring high-potential distressed properties can yield a high return on investment (ROI).
Let’s now check out the risks of buying a foreclosed home.
What Makes Buying a Foreclosed Property Risky: 5 Risks Every Investor Should Know About
The risks of buying a foreclosed home are quite numerous. After all, you’re going outside of the traditional route to invest in properties that are often neglected. However, these risks should not serve as a deterrent as there are simple ways to mitigate them. Here is an overview of the risks of buying a foreclosed home as well as some of the best practices that will help you navigate them.
1- You can end up overpaying for an investment property
Paying over market value is one of the most common risks of real estate investing. This risk is further compounded when you are buying an investment property through an auction. In many cases, the competition can be fierce enough to send the price far higher than the property’s actual value. This risk can be mitigated through a plan that specifies the maximum bid that you are willing to pay. Additionally, working with a real estate agent will help you stick to a coherent strategy and prevent you from getting swayed by the actions of other investors. There is also the option of buying a foreclosure on the open market rather than at an auction.
Related: Do You Need to Hire a Foreclosure Specialist When Buying a Foreclosed Home?
2- Some undisclosed costs can affect your ROI
Most novice real estate investors are unaware of the hidden costs of buying a foreclosed home. Besides obvious costs such as the purchase price and title fee, these acquisitions are subject to various transaction fees. Examples of this include transfer taxes as well as costs related to liens on the property. Moreover, real estate investors have to pay a fee to the foreclosure company. If you don’t want some of these costs to catch you off guard, make sure to do your research in order to get a complete idea of what to expect and how it will affect your ROI. A great way to analyze foreclosure expenses is to use the Mashvisor Property Marketplace. On top of giving you access to hundreds of foreclosures, the platform provides tools that help you assess the investment potential of each investment property and provides you with accurate estimates of their ROI.
3- The property might need more repairs than expected
One of the risks of foreclosure investing is buying a property that needs more repairs than you initially expected. In fact, foreclosed homes are typically sold «as is», meaning that the bank or the owner won’t make any repairs before putting the property up for sale. Moreover, the bank is under no obligation to disclose any red flags on its report and the onus is on the buyers to do their due diligence. This is why it is important to conduct your own professional inspection and to set some extra funds aside in case the property needs major repairs.
4- There might be liens on the foreclosed property
Contrary to common belief, not all liens vanish after foreclosure. New owners can still find themselves dealing with unresolved liens long after purchasing the property. One of the most common types of liens on foreclosed property is IRS debt. The IRS can, in fact, claim a significant percentage of the resale price, leaving you with minimal profit or in the worst-case scenario, a loss. To avoid dealing with this issue, you will need to check with the local county to make sure that no tax liens are placed on the investment property.
Related: Learn How to Do a Title Search in 5 Steps
5- Time delays can jeopardize your rental strategy
Foreclosure sales aren’t always fast and smooth. As a matter of fact, the process can drag out quite a bit during the escrow phase. This can seriously affect your ability to turn a profit if your initial strategy is entirely reliant on renting out the property as quickly as possible. The best way to avoid these delays is to work with an agent or a broker who has a working relationship with a particular institution. These professionals will have inside knowledge of how the bank handles foreclosures and are usually tipped off about new foreclosures before the wider market.
The Bottom Line
Finding foreclosed property for sale and buying it is relatively simple once you have grasped every aspect of the process. With that being said, the legal and financial framework that is necessary to acquire foreclosures can be difficult to navigate for a novice real estate investor. This is why you should consider working with an experienced real estate agent and rely on advanced tools such as the Mashvisor Property Marketplace when it comes to finding foreclosures.