Foreclosure happens when a borrower fails to make payments on their mortgage, and the lender must repossess the home. To recoup their investment, the lender typically sells the home at a reduced price to offload the asset quickly.
This presents potential homebuyers with the ability to get more space in a better area with a much lower price tag.
Can you purchase a foreclosure with a USDA loan?
It is entirely possible to purchase a foreclosed home with a USDA loan, as long as the home is located in a qualified rural area.
USDA loans do not require a down payment, making them an excellent choice for foreclosures. It's not uncommon to find foreclosed homes needing a little extra love, and the money saved by not having a down payment can help cover needed renovations.
“One of the best things about buying a foreclosure is the ability to get some quick equity,” says Craig Dunn, Mortgage Operations Manager from Neighbors Bank. It’s also possible to negotiate extra savings on the purchase price given the rural location and anticipation of needed repairs to rehab the home.
How to Find Foreclosed Homes
More often than not, a property listing will present acceptable purchase types upfront, such as:
- “Eligible for Conventional”
- “VA and USDA purchases”
- “Cash purchases not allowed”
Local newspapers and bank websites also host listings for upcoming public foreclosures.
Your real estate agent may also be helpful with their connections and insight by knowing what is coming to market before auction, or “pre-foreclosure.”
Types of Foreclosures
In the pre-foreclosure stage, the homebuyer is typically 90 days late on payments, and the property is still legally owned by the original buyer. In this stage, the owner generally has a handful of options, including:
- Paying the outstanding balance
- Selling the property in a short sale
- Sign the deed to the lender through a deed in lieu of foreclosure
In this stage, USDA borrowers have a chance of purchasing the home from the original owner. The key is to have an excellent real estate agent who is aware of the inventory coming to market.
Short sales happen when the property owner owes more than the home's value, and the lender settles by accepting a lesser amount.
In this stage, the borrower is already in default or taking on financial hardship, which will likely result in default.
USDA buyers should know that banks are often slow to respond to these offers. Additionally, inspections often reveal issues that ultimately dissolve the deal since banks are usually reluctant to assist with repairs.
“The seller may be unwilling to renegotiate the contract if the loan appraises undervalue or if repairs are required,” says Dunn. “There’s less flexibility and communication with the seller. It’s harder to negotiate with, and they’re more rigid in what they require. Generally, just more red tape.”
Sheriff’s sale auctions
A sheriff's sale, or trustee sale, is a type of public auction where the lender attempts to recoup their investment.
These are the same as the foreclosure auctions you see advertised in newspapers and are held on city courthouse steps by the local law enforcement.
USDA buyers generally won't be able to participate in a sheriff's sale auction since homes typically sell "as-is" and do not allow for an appraisal or inspection.
When the property doesn't sell at auction, the bank carries the burden of the ownership and losses until it is sold.
USDA homebuyers should know that banks don't typically sell directly to the buyer but will instead list the property through a local real estate agent. You can find these properties through an experienced real estate agent, by inquiring with local banks, or on HUD's foreclosure directory.
Like previous foreclosure types, bank-owned properties are sold "as is"; however, unlike auctions, buyers are allowed home inspections and appraisals.
Requirements for Buying a Foreclosure with USDA Loans
Like any other home for sale, there are certain requirements the foreclosed home must meet in order to be guaranteed by the USDA.
- Must be located in a qualified rural area
- Must be preapproved for USDA financing
- Meet HUD Property Guidelines, abbreviated below:
- Appliances and cabinets must be installed
- Utilities must be on and functioning
- Paint cannot be peeling or flaking
- Windows must be installed and intact
- Roofs must have three years or more remaining life
- Safety railings installed to all stairs and decks
- Flooring must be present. Worn condition is acceptable; cracked tiles or bare floors is not
- Electrical outlets must be GFI compliant
- Meet all state and local building codes
Process of Buying a Foreclosure with a USDA Loan
After you’ve found a property in a USDA eligible area or a real estate agent to help you begin your search, buying a foreclosure tends to fall in line with the traditional steps of buying a home:
- Get preapproved for a USDA Loan to ensure to you meet USDA credit requirements.
- Find a USDA experienced real estate agent (do this before you find the property!)
- Make offers staying mindful of your preapproval limits- it may take a few tries!
- An appraisal is required to ensure the value matches the price and the condition of the property is fit for USDA guaranteed financing. Think: Safe, sound, and sanitary.
- Get a home inspection for peace of mind. This inspection is a complete check-up report for your investment and can help identify a bad deal.
- Closing may take longer than 45 days. Patience pays off here!
Benefits vs Risks
|Perfect for DIY-ers looking for fixer-uppers.||Properties sold “as-is” in poor or outdated condition. Individual sellers can be motivated to negotiate and help with these costs. On the other hand, bank and government-owned foreclosures seldom agree to repairs.|
|Motivated sellers are more likely to agree to repairs or assisting with closing costs (however, this is not the case for bank and government-owned foreclosures).||Delinquencies like judgments and tax liens that ultimately add cost to the purchase price ensuring clear property title for the new owner.|
|Lower home prices than traditional purchases.||Closing often takes longer than the typical 45 days. These are not purchases meant for those on a timeline.|
|Competition can be tough with professional flippers and cash buyers. Bidding wars are very common.|
Things to Keep in Mind
“One thing that I wish buyers knew about buying a home that has been foreclosed on is that it will likely take longer to go from contract to close due to the additional requirements of the seller,” Dunn says, “It can get frustrating. You’re dealing with a business instead of a person, so they’re only looking at the dollars and cents and it makes them harder to reason with.”
- Choose an agent with a successful track record and experience closing USDA purchases.
- Be prepared to make repairs before and after closing. (Older homes are going to need extra love!)
- Get a home inspection. USDA only requires appraisal inspection to value the home for financing.
- Research before you hire an inspector- an experienced agent often can recommend one!
- Attend your inspection and ask questions. Know your potential investment.
- Communication can become drawn out and closing delays are common. If you’re not in a hurry though, then you can find some steals and land some equity in your home right away.
It is always a good rule of thumb to go into these transactions with patience and willingness to see it through.