If your loan modification or refinance attempts have been unsuccessful or you do not wish to go through these processes, you have available to you a few other options to avoid foreclosure - including the option of short-selling your home. You can complete a short sale with no out of pocket expenses and relieve yourself of unbearable mortgage debt.
What is a Short Sale:
A "Short Sale" is the term used for the sale of a home that has a mortgage balance owed to the lender which is more than the Fair Market Value (FMV) of the home. The lender allows you, the homeowner to list and sell your property with the understanding that the net proceeds from the sale may be less than the total amount due on the mortgage. Lenders will incur a smaller financial loss by allowing a short sale than would result from foreclosure or continued non-payment, while borrowers are able to reduce damage to their credit history. When you sell your home through a short sale agreement, you will not typically receive any funds from the sale.
How it Works:
The homeowner attempting a short sale is usually behind on their loan payments or struggling to make payments. The homeowner lists with a licensed real estate professional to sell their home and negotiate with the lender on their behalf. Generally the lender will only begin negotiations after a Buyer makes an offer. That offer, along with the documentation of the Seller's situation, is presented to the lender contingent on approval from the lender. Lenders often have loss-mitigation departments that evaluate potential short sale transactions and most have pre-determined criteria for such transactions. The lender will order an appraisal or Broker Price Opinion (BPO) of the property to determine if the buyer's offer is in line with Fair Market Value. Multiple levels of approvals and conditions are very common with short sales. Junior lien-holders may also need to approve the short sale. The parameters and processes involved in a short sale makes it a relatively complex and highly specialized type of real estate transaction. Because of this, short sale deals have a high failure rate and often do not close in time to prevent foreclosure when they are not handled by a knowledgeable and experienced professional. The time-frame to successfully close a short sale transaction is long (60-120 days) and has caused many qualified buyers to walk away from deals that were ongoing for months.
1. What are the advantages of a short sale?
Short sales typically have less of a negative impact on credit scores compared to foreclosure and you may be eligible for a Fannie Mae backed mortgage within 2 years if you complete a short sale, whereas you may need to wait 5-7 years to be eligible if you are foreclosed upon. Additionally, you, as the seller, are in control and can accept any offer from potential buyers before being sent to the lender for approval. This is important in cases where the lender is not willing to waive any deficiency judgment that may result from the sale. Perhaps one of the biggest advantages is that you are able to stop foreclosure proceedings and get a fresh start, and a short sale is completed at no cost to the homeowner. All real estate commissions, title and escrow fees are paid by the lender as part of the short sale approval.
2. Will my lender allow me to complete a short sale?
Your lender will be considering a number of factors in deciding whether to approve a short sale. The lender will review your circumstance and decide whether you deserve a break due to financial hardship caused by uncontrollable circumstances such as death, divorce, layoffs or illness. Your lender will look at your short sale request as a business decision and determine whether it would be cheaper for them to approve the short sale or simply proceed with the foreclosure process, make any necessary repairs and sell it through a licensed real estate agent. Keep in mind there are many expenses the lender will incur if they take your property back through foreclosure including property tax, maintenance, utilities, HOA fees and the risk that the vacant home will be vandalized. Your lender will not have to pay these costs if you complete a short sale. The number of other real estate owned (REO) properties they have in their portfolio may also affect their decision. The bottom line is that lenders do not approve all short sale requests, which is why you should work with an experienced professional with a good track record.
3. What type of financial hardship is my lender likely to accept?
A lender will want a complete description of the facts that have brought about your financial hardship and subsequent short sale request. The lender wants to know that you have a valid reason for them to accept less than full payment. As long as you have a legitimate hardship and your lender believes the loan is likely to become delinquent as a result, the short sale request will be processed by their Loss Mitigation Department. Lenders can understand many circumstances are unavoidable including job loss, job relocation, reduced income, family illness or injury, death, divorce and adjustments in mortgage payments.
4. My home needs work or other repairs. Am I still able to complete a short sale?
Yes. Lenders may be more motivated to allow a short sale on a home that requires some repairs because if the lender ends up taking the home back through foreclosure, they will be responsible for the cost of repairs. Lenders are in the business of loaning money, not managing and repairing homes.
5. If I have more than one loan, can I still do a short sale?
Maybe. Some lenders will accept a short sale file for approval on loans that are current, while other lenders will not accept the file until the loan is delinquent. The best way to determine if you lender will accept a short sale request is to submit it for approval with the language "Default is imminent". I can put your file together within a few days (for free) and submit it for approval to determine if you lender will allow the short sale.
7. Who pays the commissions on a short sale?
In a standard sale, commissions are subtracted from the seller's funds and paid out of escrow. In a short sale, the seller has no funds in escrow which means the commissions end up being subtracted from the monies that would go to the lender. So, the lender ultimately is the one paying the entire sales commission.
8. Will I profit from the sale of my home through a short sale?
No. The short sale transaction allows you to walk away from overburdened debt at no cost. Therefore, you, as the seller are not going to make a profit.
9. How long does the short sale process take?
The time-frame to successfully close a short sale transaction is long, but is usually done within 60-120 days. In a short sale, all agreements are “subject to lender approval”. You are requesting a discounted payoff from the lender, in which the buyer and seller must allow the lender to determine the value of the home and determine if the loss is justifiable. The lender wants to mitigate their losses so an evaluation must be completed before approval is granted. Multiple levels of approvals and conditions are very common with short sales.
A deficiency is the difference between the amount that was owed on the mortgage and the amount the property sold for. If your lender does not approve a short sale and takes your property back through foreclosure, a junior lender may be able to obtain a judgment against you. This is due to a "one-action" rule in California, which states that if your lender forecloses on your property, they have taken their one action against you and can not sue for a deficiency. However, in the case of junior debt (a 2nd trust deed or line of credit), the junior lender has not taken any action to collect the amount they are owed. If this junior lender pursues a deficiency judgment, the remaining deficiency will be classified as unsecured debt (as opposed to secured debt where your home is collateral for the debt) and typically be transferred to a collection agency.
11. Will I be taxed on the debt forgiveness if the lender waives a deficiency judgment?
Maybe. The Mortgage Forgiveness Debt Relief Act was enacted in 2007 to allows taxpayers to exclude income from the discharge of debt on their principal residence. When you borrow money from a lender and the lender later cancels or forgives the debt, you may have to include the canceled amount as income for tax purposes. The lender is usually required to report the amount of the canceled debt to you and the IRS on a Form 1099-C, Cancellation of Debt.
12. Does the Mortgage Forgiveness Debt Relief Act apply to all forgiven or canceled debt?
No. The Act only applies to debt used to buy, build or substantially improve the taxpayer's principal residence up to a limit of $2 million. Debt used to refinance your home qualifies for this exclusion but only up to the extent that the principal balance of the old mortgage, immediately before the refinancing, would have qualified. Debt forgiven on second homes, rental property or business property does not qualify for the tax provision. You may also be excluded from paying taxes on forgiven debt if you file bankruptcy, are considered insolvent (total debt exceeds total assets) or if the loan being foreclosed upon is a non-recourse loan (typically purchase money loans are non-recourse).
13. If the forgiven debt is excluded from income, do I have to report it on my tax return?
Yes. The amount of debt forgiven must be reported on Form 982 and this form must be attached to your tax return. You should consult with your tax adviser on this issue.
14. How much will my credit be impacted by a short sale compared to foreclosure?
Most consumers are misinformed about negative credit impacts when completing a short sale transaction. The credit consequences of a short sale and foreclosure vary. The general consensus is that a short sale will show up on your credit report as a ”settlement”, “settlement for less than owed” or a "pre-foreclosure in redemption" in addition to any late payments that are overdue. When you become 30, 60 or 90 days late on payments to any of your creditors (including mortgage lenders, lines of credit, credit card companies, etc.) your creditors contact the credit bureaus and notify them of the delinquency. Late payments are not good marks, but it is possible to get them off of your credit report within a few years or less. The longer the delinquency (i.e. 90+ days) the more your credit score is impacted. A short sale can drop your credit score by 80-150 points. There is also the possibility that through negotiation with the lender you can avoid having the short sale reported to a credit agency. A foreclosure on your credit report will show up as "debt discharged due to foreclosure". A foreclosure can take 7-10 years to remove from your credit report and can decrease your credit rating up to 200-300 points. Typically on loan applications, you are asked if you have been foreclosed upon in the last 7 years and if so, can be a red flag for lenders. Additionally, any loan you are able to obtain in the couple years after a foreclosure will likely be at a much higher than normal interest rate.
15. What documents are necessary to proceed with a short sale?
The required documents necessary to proceed with a short sale are dependent on your lender. Typically the lender will require a hardship letter detailing the circumstances behind the short sale, a signed purchase agreement, preliminary HUD-1 settlement statement and a preliminary estimate of proceeds to the lender. There may be additional requests for more detailed information on your financial condition, including pay check stubs, bank statements, a personal financial statement and monthly income/expenses among other things.
16. How do I get started on a short sale?
It's easy. It is as simple as contacting me and I will get to work. If you later decide you don't want to do a short sale, that is okay too.