Buying a foreclosure always saves a lot of money? It depends...

In addition to normal home purchase process, some home buyers may be interested in buying their new homes from foreclosures. The general idea is that buyers can save up to 40% when buying a foreclosure, but is it always true? Let's start with the definition of foreclosures.

Foreclosure is the legal and professional proceeding in which a mortgagee, or other lien holder, usually a lender, obtains a court ordered termination of a mortgagor's equitable right of redemption. Usually a lender obtains a security interest from a borrower who mortgages or pledges an asset like a house to secure the loan. If the borrower defaults and the lender tries to repossess the property, courts of equity can grant the borrower the equitable right of redemption if the borrower repays the debt. While this equitable right exists, the lender cannot be sure that it can successfully repossess the property, thus the lender seeks to foreclose the equitable right of redemption. Other lien holders can also foreclose the owner's right of redemption for other debts, such as for overdue taxes, unpaid contractors' bills or overdue homeowners' association dues or assessments. (This definition is directly excerpted from wikipedia)

Honestly, the above paragraph really kills my brain cells (that's so-called "legal terms"). In simple words, people usually need to borrow some money from banks (mortgage) when buying houses (not many people are millionaires...). Although banks can earn interests when borrowers pay back the debt, the bank asks borrowers to use their houses as a security interest to make sure that the bank can get the money back. When the borrowers stop payment for two or three months (can be shorter...just a ballpark length), the bank may start a series of legal action by obtaining a permission from the court to possess borrower's house. The bank will sell this house to get their money back. When a house is sold under this circumstance, this is call a house on foreclosure.



In Canada, there are two main ways a lender can recover a mortgage debt when a borrower defaults: Judicial sale or power of sale. Judicial sale is a sale conducted under the supervision and authority of the court, where a lender must apply to the court to get the court's permission to sell the property. Power of sale allows a lender to sell property without the involvement of the court. The lender has the right to sell the property from the mortgage document and/or provincial legislation which authorizes power if sale in that province.

Power of sale is used as the lender's primary recovery method in Newfoundland, New Brunswick, Prince Edward Island, and Ontario. Whereas, Judicial sale has been adopted as the primary debt recovery vehicle in British Columbia, Alberta, Saskatchewan, Manitoba, and Quebec. In Nova Scotia, the primary recovery process is called "Mortgage Foreclosure" or "Mortgage Foreclosure and Sale," but is considered judicial, as the court is involved. (the above two paragraphs are excerpted from reference website 2). Generally speaking, the process of power of sale is faster since the court is not involved. 




The main reason why buying a house on foreclosure can be cheaper than buying one from normal real estate market is that it's the bank who sells the property, not the owner. From bank's point of view, they want to get their money (the unpaid mortgage) back as soon as possible. They don't really care how much this house can be sold since they can only take the unpaid mortgage back. The surplus from house selling will be returned to the house owner. The bank can sell the house at a relatively cheap price to shorten the process.


Although home buyers may benefit from buying a house on foreclosure, the saving may not be always substantial. There are several conditions which may reduce the saving. First of all, there is a law to protect home owners' benefit when their homes are sold by the bank. Home owners can sue the bank if they think their houses are not sold at a fair market price. To avoid this, the bank would be careful about the asking price. Sometimes, the asking price may not be noticeably cheaper than the market price. 


The main reason a home owner stops paying mortgage is due to personal financial problems. Therefore, the owner may also have difficulties in paying utilities, property taxes, condo fees, and etc. The buyer will be liable to these unpaid fees when he buy the house. Depending on the situation, the buyer might end up with paying more for buying a house on foreclosure.


The other risk is that the interior conditions of the house are generally unknown. The buyer generally has no access to the interior of the house before the deal is done. A home inspection is not possible. Besides, the bank or the owner has no obligation to repair the house before the final transaction. The buyer needs to be careful and consider this as additional costs.


In summary, buying a house on foreclosure can be a good deal, but the buyer needs to do some homework as well. It's recommended for inexperienced buyers to consult a lawyer before action. After wall, there is no easy money in this world....


Reference website:

http://en.wikipedia.org/wiki/Foreclosure
http://www.propertylimit.com/Buyer_Power_of_Sale.html
http://www.bjankowski.com/columns/column1.html
http://www.goftp.com/qna/How_to_buy_a_power_of_sale_in_ontario-qna1290.html