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Under this buying stage, the lender or bank has taken ownership of the property, either through an agreement with the owner during pre-foreclosure or at the public auction. REO means "real estate owned" by the lender and indicates the house has already gone through the foreclosure process and has been repossessed by the lender.

The lender usually sells the property to recover the unpaid loan amount and typically clears the title for any buyer. But the potential bargain is often less than a pre-foreclosure or auction property. Here's how to buy bank-owned properties or REOs:

1) Find properties and look at them. At this stage of foreclosure, it's more likely the property will be listed for sale on the Multiple Listing Service (MLS) used by real estate agents, so if you are working with an agent, ask him/her to check the MLS for bank-owned properties. To buy a bank-owned property that's listed on the MLS, contact the listing agent directly. Keep in mind that the potential bargain often diminishes if a listing agent is involved.

You can also contact lenders directly and ask for a list of their REO or bank-owned properties. You'll have to do some digging to find the department or person at the lending company or bank who manages repossessed property. You can also find properties online through services like RealtyTrac.

Once you identify a property, drive by it to get a better idea of its condition and neighborhood. You may find notices posted about the lender who owns the property or signs that show the property is listed with a real estate agent. Take lots of pictures and notes.

2) Check the potential bargain. Gather this information:

• Bank's break-even amount -- includes the unpaid balance of the loan, any fees and costs incurred during the foreclosure process and any other liens the bank had to pay off to take ownership of the property.
• Estimated market value (for tips on how to calculate this, read this)
• Your monthly expenses as a homeowner (mortgage payment, taxes, insurance, repairs, etc.)

Subtract all your costs as a buyer (break-even amount, additional liens, repair costs) from the estimated market value of the property, and use that number as a basis for your offer to the bank. This is all public information so you can research on your own with the county recorder, consult a local real estate agent or use online services like RealtyTrac.com.

3) Contact the lender to express your interest in seeing the property and making an offer.

If you don't know who owns the house, contact the local property assessor (either through county or city government) and ask who is listed as the owner of the property. The assessor should also have the owner's mailing address. Find your local property assessor here.

• When you call, ask for the REO (real estate owned) department, bank-owned homes department or asset management department. Be patient and persistent. A lender's main focus is lending money, not selling property, so it may take some time to get through to this department.
• If you can't get through by phone, another option is to overnight or fax a letter to the lender stating your interest in the property. To stand out from other letters and requests, you can prove you're a serious buyer and include a check made out to a local escrow company in the amount of a small percentage of the total purchase price. This should be refunded if no transaction takes place.

NEXT: Steps 4 and 5 of Buying a Bank-Owned Property