Record levels of foreclosures hitting the market at the same time home prices are falling creates an enticing home-buying opportunity. Many people, in the hopes of getting a home at a rock bottom price, consider buying a foreclosed property.

But buying a foreclosed home is fraught with risks. Before you jump on the bandwagon, learn whether you are a good candidate to buy a foreclosed home as well as the risks and benefits of buying at each stage of the foreclosure process. (To learn more about buying foreclosed homes to serve as rental properties, read Nolo's article Buying a Foreclosed Home as a Rental Property.)

Should You Buy a Foreclosed Home?

Whether or not you should consider buying a foreclosed home depends on several factors, including your homeownership experience, your financial situation, and whether you have access to professionals with experience buying foreclosed properties. Ask yourself the following questions:

What is Your Home Ownership Experience?

Think hard about making a foreclosure purchase your first home buy. An existing or past home owner is usually better equipped to understand and manage the obstacles that come with buying a foreclosed home. That's because a typical, non-foreclosure home buying transaction provides lessons in the true cost (in time and money) of owning a home, beyond the monthly mortgage payment.

By owning a home, you also learn about financing, tax shelter issues, property maintenance, and home improvements. It also means you're more likely to have access to a host of professionals to help you with a foreclosure deal.

How Solid is Your Financial Situation?

A foreclosure deal may be loaded with surprise expenses because foreclosed properties are often in disrepair. Such properties also can come with titles encumbered by judgments, liens, and other attachments you may have to pay off to seal the deal. And even before you begin to negotiate, the homework necessary to research the market and property can cost you. Finally, a surfeit of foreclosures typically signals a declining market with the inherent risk of property value declines yet to come. You should have the financial wherewithal to see you through to the next upturn.

Existing or prior home ownership can give you the equity stake you need to cover foreclosure purchase costs, provided you have a solid equity position available in your primary residence. Otherwise, some source of liquid cash to tap, along with low debt and outstanding credit, are all essential.

Do You Have Access to Experienced Professionals?

The arcane foreclosure system is populated with professionals who've learned the ropes. Unless you are likewise endowed with foreclosure acumen, get one or more experienced professionals on your side.

You'll need competent assistance from a real estate agent, attorney, investor, or other professional familiar with local laws and real estate market, specifically as they apply to your market's foreclosure system. Your point person should also have ample connections with other savvy professionals you may need on your quest, such as a home inspector, appraiser, and perhaps a general contractor. (For information on hiring a real estate agent, read Nolo's article Choosing Your Real Estate Agent.) 

Pros and Cons of Buying Foreclosed Properties

Even if all of the above factors line up in your favor, buying a foreclosed home is still rife with risk. The risks differ depending on what stage the foreclosure is in when you attempt to buy. When you buy a foreclosed property is as important as what property you buy.

Here are the pros and cons of buying a foreclosed home at each step in a typical foreclosure process.

Preforeclosure

Preforeclosure is the period after a home owner goes into default (typically when a payment is 90 days or more past due), and the lender files a public notice to that affect (Notice of Default or Lis Pendens ). You can find these notices in your local public records office or get them from the local newspaper, or on- and offline firms that track this data.

Pros. Experts say this is one of the best times to buy foreclosure properties. Here's why:

• You'll have more time to get a comparable market analysis, research the title, and have the home inspected. This is because the default notice typically gives the borrower several months to bring the loan current. (To learn more about home inspections, read Nolo's article Get a House Inspection Before Buying.)
• This is a time when the seller may be most accommodating, especially if he or she can walk away with something to show for any equity in the property and avoid further ruining his or her credit standing.
• If the home isn't up for sale, you'll avoid open market competition that comes with homes on the multiple listing service. That means there's a greater chance you can negotiate a favorable price.

Cons.  Here's what to look out for in preforeclosure properties:

• If someone has been unable to pay their mortgage for several months, chances are they also haven't been able to afford upkeep. That means the home will likely sell "as is" and may need costly maintenance and repairs.
• The title could be tagged with judgments, say, for an unpaid second mortgage or home improvement loan. The judgments could include late fees and other fines.

Foreclosure Auctions

Months after the buyer first defaults, if he or she doesn't bring the loan current, the lender attempts to auction off the property. Foreclosure auctions vary from state to state, but they are typically held on the courthouse steps, in a county office, at the foreclosed home, or some other location.

Pros. The auction can represent the highest potential return for an astute buyer who has done her homework, inspected the property, and verified the home's value. Here's why:

• The seller is usually motivated to sell at a fair market value.
• Auction terms typically disclose the closing date, removing the guesswork that comes with some contingency-based transactions.
• Many auctions also come with a due diligence packet of comprehensive information on the property, which the buyer can compare with his or her own research.

Cons. The auction is where having professionals on your side is key. Auctions often attract hard core investors who have the cash to flip the property (sell within a short period for a profit) and others who've been around the foreclosure block a few times.

Here are some other disadvantages to buying foreclosed homes at auction:

• If you make the winning bid, you must pay with cash or cashier's check (drawn upon a line of credit). All sales are final for the total amount of the bid.
• A bidding war that includes savvy investors could leave you empty-handed or the new owner of a property worth less than your bid.
• You typically can't inspect the property (unless you already inspected it during preforeclosure) so you will have to rely upon the due diligence packet (the information provided by the seller about the condition of the property). You won't have time to run comparables or do a title search.
• By foreclosure time, the property has likely been vacant for some time. In addition to preforeclosure conditions, it is not unusual to find filth; missing appliances, toilets, sinks, and even electrical wiring and plumbing; unacceptable floor coverings; and climate-related deterioration.
• Things could get nasty if you have to evict lingering residents from their lost home. The eviction process gives them plenty of time to trash the home or strip it for financial gain. (To learn more about the eviction process, read Nolo's article How Evictions Work: Rules for Landlords and Property Managers.)  

Real Estate Owned (REO) Properties

Lenders repossess homes they can't auction off. The properties are called "Real Estate Owned" properties or "REO" properties for short.

Pros. Here are some of the advantages of buying an REO property:

• When the bank holds the property you once again have time to arrange for an inspection and a title search, which removes some of the risk from the cost. (Although buyer's agents report that sometimes it is difficult to arrange for an inspection of these properties.)
• Banks may be more likely to finance a home they own -- they have an interest in unloading the home in order to eliminate the costs associated with owning the home.
• Gone are the owners and, with them, the need to evict.

Cons.  There are several big disadvantages to buying an REO property: price and dealing with the bank.

• Banks want top dollar to cover their costs and to recover what the previous homeowner owed on the loan. This may be more than the value of the home in the current market, especially if the homeowner had an "upside down" mortgage -- a loan balance larger than the home is worth.
• Buyers' brokers report that working with banks as the "seller" can be inordinately difficult. Banks are notoriously unresponsive -- expect extra work, unreturned phone calls, and to wait several weeks after you make an offer. Buyer's agents make less money (banks often cut their commissions) and have to work harder to get a deal for their clients. 

To learn more about all aspects of the home buying process, including buying foreclosed homes, fixer-uppers, and others, get Nolo's Essential Guide to Buying Your First Home , by Ilona Bray, Alayna Schroeder, and Marcia Stewart (Nolo).