The country had experienced the Great Depression of 2008, affecting thousands and thousands of homeowners and businesses. It was also during this time that short sales have become known and popular as the number of financially distressed homeowners spiked. During this period these homeowners found themselves on the losing side as the value of their homes is went down, and now they owe more than what is on their mortgage loans than the value of their homes. Although the housing market has since recovered slowly, a lot of these struggling homeowners still prefer to go through a short sale just to keep up with their mortgage payments and avoid foreclosure.
In this article, we will be explaining what a short sale option really is and how a short sale can work for you or for the buyer. We will also be presenting the advantages and the disadvantages of short sales for both the seller and the potential buyer.
What is a Short Sale?
By definition short sale refers to the lowered/decreased value of your home that you are trying to sell. You are trying to sell this at an amount that is lower than what you owe on your mortgage because you can no longer able to keep up with your existing mortgage loan.
It also known as pre-foreclosure sale, and it allows distressed homeowners to work with their lenders to dispose of their homes when they can no longer continue paying their home loans. A short sale helps the borrower get out from under mortgage debt and in effect can have a less damaging result on their credit rating as compared to going into foreclosure. A short sale will also allow lending companies to recoup or recover some of their investment and it lets them have something in the remaining mortgage debt rather than losing more.
And since the price is greatly reduced or lowered, short sale cab be pretty attractive to lots of potential buyers especially for first time home buyers and investors who are hoping to flip or rent out the property.
How Does a Short Sale Works?
So how does a short sale work? For starters, borrowers who want to short sale their home need or has to file a hardship letter to their respective lending institution and explain in detail why they can no longer keep up with their mortgage. They also have to provide other things or various documents like their pay stubs and tax returns which can further solidify their claims. Usually, a lender will only agree to this arrangement if the homeowner has only become financially distressed or have fallen under hardship very recently. Borrowers who suffered from sudden health or medical problems or ahve unexpected financial downturn is more likely to get the nod of the lender rather than a longstanding problems that was not disclosed earlier.
If the proposal is given the green light, the property will be assigned as a short sale in the sales listing, and offers made on the said property will be sent to the lender or seller to accept or counter it or even reject the offer. The property in short sale is sold for less than –or “short” of- the balance amount of the mortgage loan.
Once the property or home is sold, the lender will now have the option to either forgive the difference in the outstanding debt or they can get a deficiency judgment against the borrower. In the latter case, the homeowner will be asked to come up with the difference between the sale price and the mortgage that he originally owes to the lender. In some states however, when a short sale is agreed upon or have taken place, any difference after the sale will automatically be forgiven. Check with your area if your lender will forgive the balance.
Advantages of Short Sale for Sellers
Sellers can take advantage of this option rather than going into a foreclosure. It can have lots of benefits which are advantageous to the seller or homeowners. Please refer below for the advantages.
First is the homeowner’s Credit Score recovery. Any borrowers who undergo through this process can typically get another home or property without having to wait, although securing another mortgage might be faced with certain issues and challenges.
For as long as the homeowner is religious in making payments in the year leading up to the short sale and the year before they apply, the FHA can let them apply almost immediately for a new mortgage. But if you go into a foreclosure, this will definitely have negative mark on one’s credit report for about 7 long years.
Going into a short sale can also give the seller a Peace of Mind. Going into this process will let them avoid emotional turmoil or unnecessary stress of going through a foreclosure. Moreover, the borrower can typically remain in the house while it is being advertised for sale.
It can help save fees. Typically it is the seller who will shoulder the cost of closing fees and charges and the commission of the real estate agent. However, in a short sale, the mentioned fees and costs and commissions are all paid for by the lender. You can always ask your lender about this set up. Your real estate agent can also help you in this situation.
What are the setbacks of Short Sale for Sellers
Although it can be pretty advantageous for sellers, a short sale will also have its downside. A short sale will require the approval of the lender in order to proceed with the process. This can be very tedious and can slow down the entire process or can even end it altogether. Furthermore, the approval can be a bit tricky to get, and even if the borrower has all the legitimate reasons to be in such position, the lender may still opt not to approve it and may decide to go for foreclosure instead.
A seller can even walk away with nothing, meaning that they earn nothing from the sale unlike in regular sale where the proceeds will go to the seller. In a short sale, the proceeds will go to the lender in order to recoup or recover the debt. There is also a chance that the outstanding mortgage will not be covered or paid off entirely by the short sale, and the borrower has to pay the lender for whatever balance or difference that remains after the sale.
It can still affect one’s Credit Score. Although it is not as damaging as a foreclosure, a short sale can still have an effect on one’s credit history. The effect of the short sale on your credit rating is not as long as a foreclosure but can still knock off by as much as 160 points off your credit score.
What are the Benefits of Short Sale for Buyers?
For potential buyers who are either first time homeowners or investors here are the pros and advantages of buying a house out of a short sale.
The seller in a short sale is in dire need of the cash in order to avoid foreclosure which can be very emotionally draining and its effect on their credit score. Moreover, the lender wants to recoup their investment as soon as possible, thus they will both work the short sale out to approve the deal. And in this case, it can put the potential buyer in the upper hand by bargaining the price, usually much lower than what the seller wants.
A house on short sale can also have fewer competitors. This is because of the complexity of the process in a short sale and the deal can go on like forever. The timeframe is uncertain which can be frustrating to most buyers. And this can only mean that there are fewer interested buyers for a house that is on a short sale. If you want to buy a house on short sale, you need to be very patient.
What are the setbacks of a short sale for buyers?
As mentioned earlier, the entire process can take months and even years. It is quiet tedious and paperwork intensive, not to mention very complex. A typical short sale can take as much as 120 days while a traditional or regular sale can only take around 45 days, sometimes even less. And even after an offer is made, an approval from the bank is still needed or required, which can only mean that another week or weeks, sometimes months will be expected. And once the offer is accepted by the seller, the lender can still opt or choose not to sell it or not approve of the sale if they believe that the offer is lesser than what they can make if they go for foreclosure instead. Ultimately, the lenders is in charge of the sale, and with them on the lead, it can take as much as one year for this process to just even begin, move forward and finalize the short sale.
Seller and Lender Involvement. For them to recoup their investment, the lender or seller can get involved directly by countering offers and asking for concessions like letting the buyer shoulder the closing fees and all. This way, they can earn more and get the most of what they can from this sale.
Lastly, the home can be in a situation that it has to be repaired or it needs repair. It can be in a state of disrepair or abandonment, and having it repaired can cost lots of money. Thus, the buyer has to work with a trusted, reliable and very experienced real estate agent. They should tap the services of an equally experienced home inspection professional in order to avoid unpleasant surprises. Be wise and prudent if you want to have the best deal. Do not commit immediately, check for pitfalls and use it to your advantage.
Getting into a poorly maintained short sale home can pose or lead you to a lot of issues and problems if the potential buyer is getting an FHA loan. This loan needs a certain livability standard which means the house has to well keep before the sale can even move forward.
What are the Differences Between a Short Sale and Foreclosure
A lot of homeowners are still perplexed and puzzled between a short sale and a foreclosure. The circumstances surrounding the two can have some similarities but the process and the ramification for the distressed homeowner and also the lender are totally different.
When we say foreclosure, this is a legal process wherein the homeowner can no longer pay or continue with the mortgage payments for a certain period of time. When the lender decided to foreclose the home, the borrower has no longer have any option in the matter but to leave the premises, or getting evicted with or without judicial involvement depending on your location. A lot of foreclosures happen when a home is already abandoned by the previous owner and payments have become delinquent.
How Foreclosure Work?
Foreclosure usually starts with the lender issuing a Notice of Default to the borrower. This will allow the problematic homeowner to know that they are at risk of being in a foreclosure and could potentially lose their home. The distressed homeowner can still try to negotiate and settle their mortgage loan with their lender or the bank. They can either go through a short sale or they can pay the lender with what they owed. If the debt is not recouped, the lender will then appraise the house’s value and schedule it for a foreclosure auction.
These auctions are usually advertised in local dailies and newspapers, and are held at the property itself or at a local courthouse.
Purchases for foreclosed properties are done in cash basis and are usually bought unseen which means that buyers cannot inspect the house. The buyers has also have to shoulder all liens and this puts them at higher risk of paying more than what was initially advertised due to various potential renos and repairs.
When the foreclosed home is not sold during the auction, it automatically become bank-owned or REO which stands for Real Estate Owned property.
Step by Step of a Short Sale
If you are considering going through a short sale, think about how likely is your lender will give you the green light for a short sale? Always remember that the lending institution is under no obligation to go through such process. So before going through this process, here are some factors that could help you if you are behind payments and is thinking of a short sale.
Check your financial circumstance
Your current financial status can be a make or break. The nature of such can most likely be the ultimate difference to your lender when you request for a short sale. If you are currently in a situation like losing a job or your source of income, unexpected medical bills which caused you to be delinquent in your mortgage payments, then it is most likely that your lender can be sympathetic to your situation and give you the go ahead.
But if the source of your financial woes has been around since the start of your mortgage and you were not totally honest about it when you were applying for a loan, then getting the green light might be challenging and the lender may just decide to foreclosure your home.
In the meantime, while you are waiting for the approval, do not spend on something that is not needed or are not totally necessary like a brand new car or a trip abroad. And even if you are totally honest about you being in dire need or have gone into financial downturn, your lender will still have to look deep into your financial status and see if you are buying unnecessary things and making expensive purchases.
Request for an approval from your Lender
As a general rule, it is unwise to approach the lender with a request for a short sale until your mortgage payments have gone into default, or when you are no longer capable of continuing making payment at all. The lending institution will be less likely to consider a short sale necessary if you are still capable of making some of your payments. On the other hand, these lenders may simply opt that a foreclosure is their best chance at recouping their losses.
If you are ready to request for a short sale, make sure that you talk to the right people. A representative from your bank does not necessarily have the appropriate authority to make any decision on your behalf. Instead request that you talk with the bank’s loss mitigation department. Do not hesitate to talk to someone else or to try again on a different day if the previous negotiation went south. Do be afraid to request to speak to someone else again.
Prepare for the Short Sale
Once you are given the green light, you have to make your short sale proposal and begin looking for potential buyers. You may also opt to hire a real estate agent, tax professional and a lawyer since this process can be a bit tricky, complex and very paper intensive as compared to your regular property sale. If you are making some errors along the way, it could be costly.
Put a Price on the Short Sale
You need to put a price on your short sale but remember that the price tag is not going to be the same as your average property sale. But although you will want to sell your home for at least with a small profit or close to the market value as you can, bear in mind of what prompted you to go through short sale in the first sale. Together with the standard paperwork, you will also have to include documents that will prove that you are undergoing financial woes which led you to request for a short sale to begin with. These documents are proof that you are in such financial hardship. These may include medical bills, notice of job termination, pay stubs or anything that will prove your current circumstance. Your proposal needs to have a hardship letter that would describe in detail why you are not able to continue paying your mortgage loans. You need to be convincing but remember to stay within the subject and do not go over it or be too dramatic. Just detail all the facts.
Submit your Short Sale Proposal
After you have written your proposal and you have found a potential buyer, submit it to your lender. Include the proposal of your buyer to further convince your lender. You must remember that when you submit your proposal, your lender will now have access to your financial status and they may be able to use it for you or against you. They can approve you or deny your proposal based on what they see on your financial information. If you have cash assets documented, then they can force you to use it to pay the mortgage loans or at least cover some of the shortfalls between the loan and final sale price. Remember when we mentioned earlier that you need to hire a lawyer? He can come handy in this situation. He can expertly navigate through the complexities of the short sale and the legalities that surround it.
If your lender approves your short sale, you still have to wait for the lender to accept the offer of your buyer. Now, this could take time, weeks or sometimes months if your lending institution wants to negotiate with the potential buyer in an attempt to recover more of the mortgage difference. And at this point, you can do nothing but be patient. You can do nothing but wait.
Understanding what your choices are
Any number of circumstances can lead to financial woes and hardship. If you are a homeowner and paying your mortgage has become an ordeal, maybe it is time to talk to your lender and discuss your options. You can always negotiate a loan modification or even revise your payment plan. Make sure that a short sale is the right option for you before you even commit to it.
If you are a first time homebuyer and you think that a short sale home is the best option, remember that it takes time and requires lots of paperwork and patience. Home under short sale may also require lots of repairs and the bottom line can be costly. Remember that you can still land some good deal through other options. If you are an investor and want to purchase short sale home, maybe you can get good deal and better profit now that the mortgage rate is still low.
Read more with our Guide To The Short Sale Process.