An REO (Real Estate Owned) is a property that goes back to the mortgage company after an unsuccessful foreclosure auction. At the foreclosure auction, the bank usually bids the amount owed. If somebody bids higher, then that bidder buys the property and the bank is repaid in full. If nobody bids higher, then the bank is the winning bidder and becomes the owner.
Every bank/lender has their own process for handling REO's but they all want to get the best price possible. Usually banks have a person or department that handles their REO inventory. REO properties are usually listed through a real estate agent.
Once you find an REO you are interested in buying you should conduct the following due diligence before you make an offer:
Usually, bank owned properties are sold "as is", which means they could need alot of repairs and renovations. It is a good idea to hire a licensed home inspector to get an idea of what the estimated costs for any repairs and renovations would be. Have a list of all the repairs needed as this will be useful when making your offer to the bank.
Banks usually clear the title prior to selling but you should never presume this is the case. You should search public records for any liens and outstanding taxes. It is always a good idea to hire a title company to perform a full title search before closing on any deal.
If you are using an agent have them find the fair market value of the property. Be conservative in your estimates. If you do not have an agent you can find comparable sales in the neighborhood and also check the price of comparable homes.
If you are buying an REO for an investment, a good rule of thumb is to not pay more than 65% of fair market value for the property
The following costs should be taken into consideration before making your offer to buy an REO.
The total amount of money you plan to pay for the house.
The total costs associated with the buying and selling of the property.
All the costs associated with getting the property in market condition .
The cost of monthly loan payments and taxes plus insurance and utilities.
Before making an offer make sure you know what the banks asking price is. If you are contacting the bank right after an REO they very well may not have set an asking price yet. Whatever you do, do not make an offer until you know what the bank is asking. You don't want to offer more than they are asking.
REO offers must be in writing and should be on a state specific sales contract. It's important that you ask the bank for everything that you want. The bank very well might reject some of your terms, but you could wind up with a really good price and some of the terms you have requested.