What is Pre-Foreclosure and How Does it Work?
Pre-foreclosure is the last opportunity for a borrower to prevent the loss of their property, and to prevent damage to their credit history from a foreclosure.
Pre-foreclosure itself does not affect your credit score like foreclosure does, but missed mortgage payments can significantly reduce your credit worthiness.
Although this may differ by the state and location of the property, here are the general rules about what constitutes pre-foreclosure:
- Mortgage in default for 90 days or more (three months of missed mortgage payments)
- The lender has notified the borrower by certified letter that foreclosure proceedings will begin within 30 days
- The borrower’s name is posted in a public notice along with others subject to foreclosure.
The pre-foreclosure period ends when the borrower and the lender agree to an arrangement that allows the borrower to retain the property, or when the lender forecloses on the borrower. In some states, a judge must review and finalize the foreclosure order. In this case, the lender must submit evidence of nonpayment and other documentation that can drag on for months in backlogged courts. However, some states process foreclosures in a matter of just a few weeks.
How do I buy a pre-foreclosure property?
Purchasing a home that’s in pre-foreclosure can be a type of short sale if the homeowner’s mortgage debt is higher than the home value. But not all pre-foreclosure sales are short sales, and not all short sales involve homes that are in pre-foreclosure. Depending on the stage of late payments, pre-foreclosures may require the approval of a lender just as short sales might. You will need to know if this is the case before you proceed, so speak to the lender to make the necessary arrangements.
Pre-foreclosures sales can help a borrower who is in pre-foreclosure avoid foreclosure and pay off a portion or all of their loan on the property. Typically the property will sell for less than it would if it was not in pre-foreclosure, so it can be an opportunity for an investor.
Because the seller is in a distressed state, they may try to sell the property as quickly as possible, and therefore accept a lower price. Having an investor or home buyer purchase their property, even at a lower price point, may still benefit the seller. They would not need to market the property, and if the home is being purchased by an investor, most investors have their funds available so there would not be as much concern about any funding problems at closing. However, some unethical investors take advantage of distressed sellers in a difficult position.
When searching listings, descriptions that include phrases such as “motivated seller” or “distressed seller” or “willing to negotiate” may provide a clue that the property is in pre-foreclosure. There are also websites that list pre-foreclosures, but many require monthly subscriptions or are priced per lead. Wholesalers also find pre-foreclosures for investors, although wholesaling is not legal in all states, and you should be careful to only work with honest and ethical wholesalers. You can find and evaluate them through real estate networking events and local real estate clubs.
Sometimes the purchase of a pre-foreclosure property can drag on for many months, however. Some may even take a year to close! The bank may also try to get as much from the buyer as possible to cover the outstanding loan, so they aren’t always as much of a bargain as you might wish. Sometimes lenders prefer foreclosure over allowing a pre-foreclosure sale if they are not happy with the sale price, because there may be less costs to the bank associated with a foreclosure than a short sale.
Expect to pay most or all of the costs and fees associated with closing since a seller in pre-foreclosure will not likely have access to much extra money, and they will also not likely be willing to do any repairs, so you will be purchasing the property “as-is.”
Always expect hidden liabilities and budget for extra expenses when you purchase a pre-foreclosure.
What should you do if you experience pre-foreclosure?
You have some options available to you, but you must not delay seeking out assistance and communicating with your lender. If you are able to raise the money for missed payments by selling personal property, obtaining a loan from a friend or family member, or using other income or assets, you can make your lender aware of your ability to pay and repay this debt as soon as possible.
You may also be able to seek loan forbearance if your missed payments have resulted from a loss or reduction of income that you know will be only temporary. In this case, you may be able to make arrangements for your lender to allow you a year to bring payments current. However, you should discuss your situation with your lender as soon as possible, and preferably before you miss a payment.
You will also need to provide proof to your lender that you will be able to bring your account current in the future by providing proof of an inheritance such as a pending property sale or other amounts due to you, or proof of a contract for an upcoming new job.
Another option you have is to discuss the possibility of mortgage modification with your lender. You may qualify for this if the lender is agreeable and you can prove to them that you can keep up with payments if they are lowered and extended. This is basically the same as applying for a new mortgage, and often comes with higher interest rates and costs in the long run. The government has encouraged lenders to work with borrowers, but there’s no guarantee your lender will agree to new payment arrangements.
If bringing your account current or making other payment arrangements are not possible, then you may want to consider bankruptcy or a deed in lieu of foreclosure. In some cases, courts may allow you to stay in your home with a bankruptcy settlement and repayment plan, but this is not always the case, and bankruptcy can hurt your credit for an extended period of time.
However, sometimes it’s the best option and allows you to clear some debts and begin rebuilding your credit. A deed in lieu of foreclosure is an agreement to give the property back to the lender but avoid having a foreclosure on your record. This will still negatively impact your credit, but for a shorter time period and less so than a bankruptcy. It may also come with forgiveness of missed payments, if your lender agrees to those terms.
Since the bank would be happier having you continue to make payments than taking the house back and having to deal with it, your best bet is to contact them as soon as possible to discuss your options.
You will have more options the sooner you contact them, so don’t wait – and please don’t be embarrassed!
You are not the first person to go through this by any means. Lenders deal with others in the same situation all the time, and situations such as this arise for any number of reasons ranging from medical debt, to a death in the family, to unexpected job or life changes, to an economic downturn that caused financial hardship, and countless other reasons.
Maybe you made some mistakes, but a lot of people make mistakes – not everyone has wealthy friends and relatives available to help when needed, or a large inheritance or trust fund to draw from when times are tough. Just do a quick search for the statistics of how many homeowners have pre-foreclosures and foreclosures each year and you will realize you are definitely not alone. Focus on what’s best for you and your family, and put all concerns aside.
Hopefully bank employees treat all customers, regardless of their financial situations or life experiences, with respect and kindness, and are sympathetic to your situation. But if they are not respectful, that says more about them than it does about you. They may find themselves in the same situation one day, since we never know what the future brings. You can always request help from a different associate if you feel you are not being treated well!
Everyone has difficult times, and whatever you are going through is not a reflection of your future potential. Keep “thinking forward” every day so you can improve your situation and have more financially secure days ahead.