What is a Short Sale?
A short sale is when a house is sold and the sale house price falls short of what is necessary to pay off what’s left on the mortgage. Short selling can only happen if both the homeowner and the mortgage lender agree to it. To obtain such agreement from the lender, the homeowner must prove he or she is undergoing actual financial hardship. That generally involves a review of tax returns, pay stubs, and bank statements.
Interestingly, the short sale agreement may not free the seller from the obligation to pay off the rest of the mortgage, a sum known as the deficiency. In the case of second lien interests like home equity lines, lenders release their lien interest and afterward may or may not seek to collect a deficiency judgment. Often, second lien holders consent to a promissory note or to significantly reduce the deficiency. Thus, they collect some money while avoiding a long foreclosure process while the home seller ends up paying less on the loan than what he or she originally owed.
The Short Sale Process
For many, short selling begins when the homeowner stops making payments on a mortgage. This isn’t always a necessity, but some lenders won’t consent to a short sale if the borrower is current on his or her payments, and in any case, financial hardship that precludes payment is likely what made the homeowner consider a short sale in the first place.
Homeowners who find themselves in this position are wise to print a copy of their credit reports while their mortgage payments are still current. The reports showing good credit can help when buying a car or making some other major purchase.
Next, the homeowner finds a realtor to list the home for sale. It’s important that the short sale house be “priced to move.” It should be the cheapest of the comparable properties for sale in the area. On the surface, this may seem counterproductive, but homeowners should remember they aren’t going to make any money on the sale anyway, and in the case of a homestead property, they won’t have to pay tax on the lender’s loss.
It’s necessary to arrive at a listing agreement with the realtor, but all terms are contingent on the lender consenting to a short sale, so there’s no risk of homeowners finding themselves stuck in agreements that are simply impossible to fulfill. A homeowner can stay in a short sale house until the sale goes through.
The would-be seller must then submit a letter of authorization to the lender. This document allows the lender to release the homeowner’s personal information and thus to communicate with the realtor and title company about what will be necessary to consider a short sale.
The homeowner must next obtain certain other documents. Typically these are a hardship letter explaining why keeping up with the mortgage has become impossible, a financial form encapsulating the homeowner’s financial situation, and proof of income and assets. The latter requires pay stubs, stock and bond statements, two years of tax returns, two months of current bank statements, and any other relevant documentation of assets.
After all this comes the sales contract. Homeowners receiving multiple offers shouldn’t only consider the highest one. Cash offers are the best, or, failing those, offers from pre-approved buyers. That’s because a short sale approval generally only runs for 30 to 45 days, so sellers need to move quickly. Once the homeowner has secured a short sale contract, it goes to the lender along with the documents listed in the preceding paragraph.
Once the lender has a complete short sale package in hand, a negotiator will procure a Broker Price Opinion or BPO. This is an appraisal to determine the value of the short sale home. It involves taking photographs of the inside, so it’s a good idea to clean and straighten up before the broker arrives.
The next step is the lender’s acceptance of the short sale offer, or, failing that, the issuance of a counter-offer. Acceptance comes with a Demand Letter laying out the details of the transaction. Optimally (from the homeowner’s point of view), the lender releases the mortgage lien and doesn’t seek a deficiency judgment, an outcome that’s most likely if the mortgage was a first mortgage. Some lenders demand a cash payment or the signing of a promissory note before releasing the seller from deficiency liability. Accordingly, sellers should consider the real value of this in light of their particular situations.
The last step is closing and moving. With the short sale completed, sellers have taken an important step to putting their finances in order and can proceed with the next phase in their lives.
What are the Benefits of a Short Sale?
The paragraphs above have alluded to some of the benefits of a short sale. But it may be useful to lay them explicitly.
A short sale minimizes damage to the homeowner’s credit. The credit score will decline, but the seller will still be eligible for home financing from Freddie Mac and Fannie Mae just two years after the short sale. That’s opposed to five years in the event of foreclosure.
Because short sale homes are nearly always sold “as is,” homeowners need not invest money in repairs while the lender is responsible for all taxes, services, and commissions. Lenders also provide homeowner’s resolution assistance. This is a payment of from $3000 to $15000 to help sellers transition to a new residence.
Short sale dates are negotiable. For sellers in active foreclosure, the short sale date for a home set by the lender can be pushed back as much as 120 days if necessary provided the homeowner’s realtor or attorney brings the MLS contract for sale and lender contract to the Summary Final Judgment hearing.
The short sale of a home reduces exposure to loss. The Making Homes Affordable guidelines provide encouragement for lenders to participate in short sales without deficiency against the buyer. Guidelines also cap the sum that can be set to cover second liens on a property with a deficiency waiver at $8500.
Finally, and perhaps most importantly of all, the short sale of a home helps sellers keep their dignity and privacy and ultimately make a fresh start. Foreclosure involves periodic inspections by bank personnel, the posting of a sign in front of the house, and, at the end of it all, can even bring the Sheriff to the home to evict the occupant. A short sale doesn’t involve any of this, and it frees the homeowner from the burden of mortgage hardship in a way that loan modification doesn’t. More than half of homeowners who receive a loan modification nevertheless eventually find themselves in default again. Though the interest rate is lower, negative equity remains, and in consequence, it may be years before it’s possible to break even on a home sale.