Selling your Home as a Short Sales
Short Sale Requirements - Do You Qualify for a Short Sale?
Short sales are abundant in today’s market with some neighborhoods having more homes for sale as Short Sale than not. Sellers who decide that their home won't sell at a price higher than they paid often wonder if they should do a short sale. A short sale doesn't always solve problems, but it can certainly assist with the financial burden of having a home that you cannot afford to keep and potentially losing it to foreclosure. If you meet the criteria for a Short Sale it could be a saving grace.
What is a Short Sale?
A Short Sale happens when the lender is paid less than what is owed on a mortgage, meaning the lender accepts less than the total amount you borrowed to purchase your home. If your mortgage is $500,000, but your home is worth, say, $450,000, you are $50,000 short, not including costs to close the sale such as real estate commissions, recording fees or title and escrow charges.
Sometimes, to avoid going through the costs of foreclosure, a lender will sanction a short sale by letting a buyer purchase the home for less than the mortgage balance while the home is in pre-foreclosure stage. A pre-foreclosure stage is one of the three stages of foreclosures.
Here are sample steps of a short sale:
- Seller signs a listing agreement with a real estate agent subject to selling as a short sale with third-party approval.
- The agent finds a buyer who makes an offer for less than the amount of the mortgage.
- Seller accepts the buyer's purchase offer.
- Seller's lender accepts the buyer's purchase offer.
- Transaction closes when the buyer delivers the funds, the lender releases the lien and the seller delivers the deed.
Ideally, everybody lives happily ever after. Except the seller. There are consequences to this type of transaction.
Qualifications for a Short Sale
Before you eagerly climb aboard the short sale bandwagon, consider the following to determine whether you may qualify for a short sale. If you cannot answer yes to all four requirements, you may not qualify for a short sale.
The Home's Market Value Has Dropped.
Hard comparable sales must substantiate that the home is worth less than the unpaid balance due the lender. This unpaid balance may include a prepayment penalty.
The Mortgage is in or Near Default Status.
It used to be that lenders would not consider a short sale if the payments were current, but that is no longer the case. Realizing that other factors contribute to a potential default, many lenders are eager to head off future problems.
The Seller Has a Financial Hardship.
The seller must submit a letter of hardship that explains why the seller cannot pay the difference due upon sale, including why the seller has or will stop making the monthly payments.
A few examples that DO NOT constitute a hardship are:
- Bad purchase decisions. Blowing your paycheck on a home theater system with surround sound does not qualify as a hardship.
- Unhappy with the neighbors. Even if every home on your block has turned into pot growing houses, that will not qualify as a hardship.
- Buying another home. The lender will not care if you have decided the home is no longer suitable for you or your family.
- Pregnancy. Increasing the size of your family or starting a family is not considered a hardship.
- Moving into an apartment. If you decide to move out of your home, that is a lifestyle decision and not a very good reason to abandon your home.
Examples of hardship are:
- Medical emergency / sudden illness
- Job change too far to commute to the home
- Military relocation
The Seller Has No Assets.
The lender will probably want to see a copy of the seller's tax returns and / or a financial statement. If the lender discovers assets, the lender may not grant the short sale because the lender will feel that the seller has the ability to pay the shorted difference. Sellers with assets may still be granted a short sale but could be required to pay back the shortfall.
For example, if the seller has substantial cash in a savings account, owns other real estate, stocks, bonds or even IRA accounts, the lender will most likely determine that the seller has sufficient assets. However, the lender might discount the amount the seller is required to pay back.
Many entities profit from short sales, but there is no seller short sale profit.
Short Sale Consequences
A short sale is dependent on a buyer making an offer to purchase. If you do not receive an offer, you will not qualify for a short sale. So even if you meet all the other criteria, it is possible that no one will buy the short sale. It is also dependent on the lender accepting the buyer's offer. If the lender rejects the offer, a short sale will not take place.
If the lender agrees to the short sale, the lender has the right to issue you a 1099 for the shorted difference, due to a provision in the IRS code about debt forgiveness. Many situations are exempt from debt forgiveness, according to the Mortgage Forgiveness Debt Relief Act of 2007.
You should speak to a real estate lawyer and a tax accountant to determine the amount of short sale tax consequences, and whether you can afford to pay those taxes, if any.
Blemished Credit Report
While a short sale will not show up on your credit report, the loan status will. For those in default, it's a pre-foreclosure that has been redeemed, which is often reported as Paid in Full for Less Than Agreed. Short sales can affect credit ratings. While the damage to your credit report is not as significantly bad as a foreclosure to you, creditors will not allow you to purchase another home immediately.
Always seek legal counsel before attempting to pursue a short sale. As real estate agents we cannot give you legal advice.
When lenders agree to do a short sale in a real estate transaction, it means the lender is accepting less than the total amount due. Not all lenders will accept short sales or discounted payoffs, especially if it would make more financial sense to foreclose; moreover, not all sellers nor all properties qualify for short sales.
If you are considering buying a short sale, there could be drawbacks. For your protection, we suggest that all borrowers:
- Obtain legal advice from a competent real estate lawyer
As a real estate agent, I am not licensed as a lawyer nor a CPA and cannot advise on those consequences. Except for certain conditions pursuant to the Mortgage Forgiveness Debt Relief Act of 2007, be aware the I.R.S. could consider debt forgiveness as income, and there is no guarantee that a lender who accepts a short sale will not legally pursue a borrower for the difference between the amount owed and the amount paid. In Hawaii, this amount is known as a deficiency. A lawyer can determine whether your loan qualifies for a deficiency judgment or claim. If it is a VA guaranteed loan then this amount will be deducted from your total future entitlement thus capping the amount you can borrow on a VA loan.
Although all lenders have varying requirements and may demand that a borrower submit a wide array of documentation, the following steps will give you a pretty good idea of what to expect.
Call the Lender
You may need to make a half dozen phone calls before you find the person responsible for handling short sales. You do not want to talk to the "real estate short sale" or "work out" department, you want the supervisor's name, the name of the individual capable of making a decision.
Submit Letter of Authorization
Lenders typically do not want to disclose any of your personal information without written authorization to do so. If you are working with a real estate agent, closing agent, title company or lawyer, you will receive better cooperation if you write a letter to the lender giving the lender permission to talk with those specific interested parties about your loan. The letter should include the following:
- Property Address
- Loan Reference Number
- Your Name
- The Date
- Your Agent's Name & Contact Information
Preliminary Net Sheet-HUD 1 Statement
This is an estimated closing statement that shows the sales price you expect to receive and all the costs of sale, unpaid loan balances, outstanding payments due and late fees, including real estate commissions, if any. Your closing agent or lawyer should be able to prepare this for you, if you do not know how to calculate any of these fees. If the bottom line shows cash to the seller, you will probably not need a short sale.
The more descriptive, the better. This statement of facts describes how you got into this financial bind and makes a plea to the lender to accept less than full payment. Lenders are not inhumane and can understand if you lost your job, were hospitalized or a truck ran over your entire family, but lenders are not particularly empathetic to situations involving dishonesty or criminal behavior.
Proof of Income and Assets
It is best to be truthful and honest about your financial situation and disclose assets. Lenders will want to know if you have savings accounts, money market accounts, stocks or bonds, negotiable instruments, cash or other real estate or anything of tangible value. Lenders are not in the charity business and often require assurance that the debtor cannot pay back any of the debt that it is forgiving.
Copies of Bank Statements
If your bank statements reflect unaccountable deposits, large cash withdrawals or an unusual number of checks, it's probably a good idea to explain each of those line items to the lender. In addition, the lender might want you to account for each and every deposit so it can determine whether deposits will continue.
Comparative Market Analysis
Sometimes markets decline and property values fall. If this is part of the reason that you cannot sell your home for enough to pay off the lender, this fact should be substantiated for the lender through a Comparative Market Analysis (CMA). As your real estate agent we can prepare a CMA for you, which will show prices of similar homes in your neighborhood:
- Active on the market
- Pending sales
- Solds from the past six months or less.
Purchase Agreement & Listing Agreement
When you reach an agreement to sell with a prospective purchaser, the lender will want a copy of the offer, along with a copy of your listing agreement. Be prepared for the lender to renegotiate commissions and to refuse to pay for certain items such as home protection plans or termite inspections.
Now, if everything goes well, the lender will approve your short sale. As part of the negotiation, you might ask that the lender not report adverse credit to the credit reporting agencies, but realize that the lender is under no obligation to accommodate this request. Credit report status is not always negotiable.