Foreclosure is the legal process where real estate secured by a mortgage or deed of trust is sold to satisfy a debt. Depending on state law and the circumstances, the foreclosure will be judicial or nonjudicial. At the end of the process, the property is sold so that the lender can recoup the amount it loaned to the defaulting borrower.
At the foreclosure sale, the foreclosing bank can make a credit bid up to the total amount of the debt, plus foreclosure fees and costs, while any other parties must bid in cash or a cash equivalent, like a cashier's check. In the majority of cases, the bank will be the high bidder at the foreclosure sale. If the bank is the winning bidder at the foreclosure sale, the property becomes "REO." REO stands for "Real Estate Owned."
The term “REO” also applies to properties that a bank owns as the result of deeds in lieu of foreclosure.
Following a foreclosure, the loan servicer will secure the property and re-key the locks if the property is vacant. It will also make any needed emergency repairs. Generally, by the time the property is REO, the servicer will already have a sense of the property’s condition and occupancy. (The servicer orders periodic drive-by property inspections once the loan goes into default and throughout the foreclosure.)
Then, the bank that foreclosed will market and sell the property to a new owner.
Sometimes, the servicer will hire an REO management company to facilitate the property's disposition following a foreclosure. REO management companies typically manage:
If the property is occupied, the servicer or REO management company might offer a cash-for-keys deal to induce the tenant or foreclosed homeowner to vacate the home before completing an eviction.
If a bona fide tenant occupies the property, the Protecting Tenants at Foreclosure Act (PTFA):
Also, some states have adopted additional notice requirements and more protections for tenants occupying foreclosed properties.
Once the property is vacant, the servicer or REO management company will develop a marketing strategy for selling the property. Based on an appraisal or a broker’s price opinion, the potential sales price is set. Usually, banks prefer to sell a property in "as is" condition.
If you make an offer to buy an REO property, it might need to be reviewed and approved by several individuals, like the asset manager and other management, before it's approved. Plus, you might get a counteroffer. Once your offer is accepted, the servicer or the REO management company will oversee the closing, receipt of proceeds, and title transfer.
To learn more about buying a house, see Nolo’s Buying Foreclosed Properties area.