Well, most simply put, the homeowner does not keep up with the mortgage payments and the bank has to exercise their rights as a lienholder and take the house as payment of the debt. This is actually wherein lies one of the biggest myths about foreclosures - that they can be picked up way below market value, because the bank will just want to offload the property and get their money out. This is not really the case and here's why!

In the vast majority of cases (although not always), the type of mortgage which was taken out on such a property is a very high loan to value, with a very small deposit, such as an FHA loan. Oftentimes, this is because the borrower doesn't have much money and in addition, many times has bad credit. FHA loans are easier to get for this type of borrower. Since most of a mortgage payment is interest in the first few years, it takes a long time before any real equity is built up in the house. This means that whenever the borrower gets into financial trouble and can't pay the monthly payments, they are more likely to walk away from the property and allow the bank to take the house. Anyone with a large equity in the house is more likely to fight hard to find the money somehow to keep paying those mortgage payments and less likely to walk away from their investment.

Of course since 2007, we have started to see many foreclosures on properties where people did actually put down a substantial amount, but the market value is now less than the price they paid for their properties during the boom periods of 2003-2006, leaving them with negative equity. Very lax lending policies during the boom times enabled people to get into mortgages that they couldn't really afford, which helped to create a flood of foreclosures.

Well, in the majority of cases then, the loans on such properties will often equal very close to the market value of the house, or in many cases after 2007, the loans are greater! In addition, the lender has to pay fees and closing costs, so is very unlikely to sell a property at less than market value.

Also, in our experience, when a property owner is evicted from their home for non-payment, they often get angry and frustrated. We have seen time after time that many foreclosure properties have holes punched in the walls, wires ripped out, excretia and such on the carpets, holes punched in roofs, etc. all done by such a frustrated owner. This is often why you will see a foreclosure for sale at less than market value, because the lender has allowed for the fact that several thousand dollars in repairs will have to be made, to make the house habitable. In addition, in many cases, this type of house is not usually in the best part of town.

Yes, because there are always "gems" out there to be found, but just like all gems, you have to search for them and do your homework. Be aware though, that there are investors out there who do nothing BUT buy foreclosures and if there are any great deals out there, be sure they will be the first in line!

Anyway, having said all that, if you are an investor determined to hang in until you find that good deal, or a keen handyman who is not scared of a "fixer-upper", either for an investment or to live in, then by all means, this might be for you. We wouldn't recommend this though for the majority of our buyers, who all live thousands of miles away from the properties they buy for investment or second homes. The work needed to bring fixer-uppers back to a decent state is usually way too much to handle unless you are on site and in control the entire time.

You will also need to know that there are very strict procedures to follow when purchasing such properties. Banks will always need to see proof of funds before accepting an offer. In addition, in almost all cases, banks will not pay certain closing costs that are traditionally paid by the seller, such as owner's title insurance (which on a $200,000 property, for example, costs around $1,100) and documentary stamps on the deed ($1,400 on the example $200,000 property). That's $2,500 more than you would pay on a non-foreclosure purchase. It also usually takes time for a bank to accept an offer, so if you are in a hurry to know whether you have the property or not, this would be a problem.