The housing market continues to be a challenge for some people to enter, even with interest rates rising and helping to slow the rise of home prices. For buyers that are hoping to potentially buy a home for themselves or their family to live in, or for real estate investors, this can make an enticing reason to try to enter the market. Many homes continue to be far too expensive for a large portion of potential buyers, however, but pre-foreclosure homes can be a great way to get a home at a price break on a new home. What exactly are pre-foreclosure homes, and are they worth buying for the average person?
Pre-foreclosure homes are homes where the property is about to begin the process of foreclosure, often because the current owner is behind on their agreed-upon mortgage payments. This can take 90 days or more to begin, and it can provide an optimal window for someone to make an offer to the bank.
There is a lot to consider when it comes to pre-foreclosure homes, and while they do make an attractive option for a potential buyer who is looking for a good deal, there are several things to consider before making an offer. We're going to look at what exactly pre-foreclosure means, how to find homes in pre-foreclosure, how to buy them, as well as some tips for buying. Here's everything you need to know about pre-foreclosure homes and whether you should buy one.
What Does Pre-foreclosure Mean
Pre-foreclosure generally means that the mortgage lender for the property has officially notified the current owners that they are currently in default. They are notified that they have defaulted before the property is officially put up for auction, giving the homeowners time to explore some of their other options. During the pre-foreclosure stage, the homeowner does have some options that they can use to avoid the home foreclosure process entirely. This means that they can often avoid the intensely negative credit impact that a foreclosure has, as well as the following difficulty in obtaining a new mortgage.
In many cases, buyers that are considering pre-foreclosure homes can have trouble finding them because they simply don't know where to look to find properties that are in that liminal space between being current on the mortgage and being in full foreclosure. Some locations will have lists of properties in pre-foreclosure in city or county offices or courthouses. Many internet resources can be used to find pre-foreclosure homes, such as the real estate listing and data aggregation platform Zillow.
Those that are searching for homes to buy often use the listing platform Zillow. They have such a wide range and depth of real estate data that they can be used for far more intense research than simply browsing homes that have been listed for sale. Potential buyers and sellers can browse market prices and estimated values for properties similar to theirs or what they are looking for and can sort and filter their results in countless ways.
One of the many lesser-known features of Zillow, however, is that they have extensive data on foreclosures and pre-foreclosures as well as homes already listed. They take data from numerous sources and compile it all in an easy-to-navigate format, allowing potential buyers to limit their searches to just homes and other properties in the pre-foreclosure stage. For many buyers, particularly those who have already obtained pre-approval, this can cut out an incredible amount of work driving around and browsing pre-foreclosure lists in nearby county courthouses.
In many cases, Zillow will also have additional data that can be used to help give the buyer leverage during the sale process. They can browse data points like the current unpaid balances of the mortgages for pre-foreclosure homes, and for those that have auction dates scheduled, that data is frequently available as well.
How To Buy A Pre-foreclosure Home
Buying a pre-foreclosure home is a little different than the normal home buying process. In many cases, you will be able to locate a potential property through Zillow or public record notices of default in newspapers and county courthouses. Once you have a potential property, remember to be respectful of the homeowner's position when communicating with them, they are likely under a lot of financial stress and may negatively take unsolicited buyers.
This can sometimes be seen as harassment if conducted too aggressively, and depending on your local laws, you may also be prohibited from contacting owners of pre-foreclosure homes, also known as distressed properties. If you are allowed, however, and you decide you want to purchase the home, and the potential sellers agree, the sale will be somewhat different than you may be used to.
In many cases, you won't make a formal mortgage arrangement and down payment. You'll often simply cover what the homeowner owes on the remaining mortgage. This includes the loan balance, as well as any potential liens on the home and back payments on unpaid homeowners and mortgage insurance. Cash sales are often the easiest way to do this.
Tips For Buying Pre-Foreclosure Homes
Here are six tips for buyers that may be interested in buying a pre-foreclosure home, particularly if you have not been through the process before.
1. Know The Difference Between Pre-Foreclosure & Short Sale
While they may seem similar, pre-foreclosure and short sales are quite different. In a short sale, the current owner is underwater on their mortgage, meaning they owe more than the value of the home. This means you'd have to deal with negotiating with the mortgage lender to buy it for less than what's owed. With a pre-foreclosure sale, the home often has enough value to cover the remaining balance of the mortgage. Unlike a short sale, the owner of a home in pre-foreclosure generally has some amount of equity in the property.
2. Understand The Homeowner Has Other Options
Before going into a pre-foreclosure sale with high hopes, you need to understand that your purchase isn't the only option the homeowner has to get out of trouble. They can often negotiate a loan modification with their current lender, or even enter a forbearance plan. In either case, however, they'll need to work with their existing loan servicer to make arrangements, and odds are, if they haven't done it by now, they aren't likely to. The main point is to go into the deal with some compassion for the current owner's hardship.
3. Know Your Potential Discounts
Even though a pre-foreclosure home usually has a little equity, you may not get the massive discount you were dreaming of. Just as with any other potential real estate purchase, the final price will vary based on market trends, conditions, and negotiations. That isn't to say that you can't get a good price, however, and there are some things you can do to improve your chances of getting a better deal. One of the ways you can do that is to agree to buy the home in as-is condition, which relieves the seller of the burden of having to sink money into repairs for the property. Another tactic is to negotiate repair contingencies that give an advantage to the seller, like the offer to remain in the home for a predetermined period, so they have an easier transition to their new home.
4. Get Pre-Approved
This is always a great idea, whether you're looking for pre-foreclosure homes or not. Having a pre-approval letter shows the seller that you're serious and have already had a lender look at your financials, so you're serious and capable. Your pre-approval letter will frequently put you far ahead of other buyers that haven't gotten one.
5. Put Down Earnest Money
Another way to show your potential seller that you're serious is to make an offer of earnest money. This is generally going to be between 1% and 3% of the home price, but in some cases, it can be just a few hundred dollars. This is money that you will lose if you back out for reasons not outlined in the purchase agreement, so it sweetens the deal considerably with the seller.
6. Do Plenty Of Due-Diligence
Even if you're planning on offering to buy a property as-is and without repairs from the current owner, it's still vital that you get a home inspection. Know what you're getting into. Also, have a title search done to see if you'll be taking on any property liens. If there are liens, it may give you a little more leverage during negotiations.
Understanding Pre-Foreclosure Homes Can Help You Buy Houses More Effectively
Pre-foreclosure homes are becoming more common with the market starting to slow, and when leveraged properly, it can put a much better deal on the plate for you. Just make sure you are aware of the risks of buying a pre-foreclosure home and what might be involved in the process so you don't get hit with any surprises. Once you know what to expect and you use a little planning and preparation, you'll be in a great position to buy a new home at a potentially lower price than the market would set.
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Shawn Manaher is a former financial advisor, has founded 5 online businesses, and is a coach, speaker, podcast host, and author. He's been featured on The Consults Corner on TAE Radio, The Writing Biz, What's Your Story, and more.