What is a Short Sale?

For owners who can no longer afford to keep mortgage payments current, there are alternatives to bankruptcy or  foreclosure proceedings. One of those options is called a "short sale."

When lenders agree to do a Short Sale on a property, 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.

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 some states, this amount is known as a deficiency. A lawyer can determine whether your loan qualifies for a deficiency judgment or claim.

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

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.

• Hardship Letter
  The sadder, 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). Your real estate agent can prepare a CMA for you, which will show prices of similar homes:
  • Active on the market
  • Pending sales
  • Solds from the past six month 
• 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 the 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.

Investors who buy foreclosures often prefer to purchase these homes before the foreclosure proceedings are final. Before approaching a seller in distress, consider:

 1.  Foreclosure proceedings vary from state to state. In states where mortgages are used, home owners can end up staying in the property for almost a year; whereas, in states where trust deeds are used, a seller has less than four months before the trustee's sale. 

2. Almost every state provides for some period of redemption. This means the seller has an irrevocable right during a certain length of time to cure the default, including paying all foreclosure costs, back interest and missed principal payments, to regain control of the property. For more information, consult a real estate lawyer.

3. Many states also require that buyers give to sellers certain disclosures regarding equity purchases. Failure to provide those notices and to prepare offers on the required paperwork can result in fines, lawsuits or even revocation of sale.

Buying a Home at the Trustee's Sale

Check with your local county office to find out how sales in your area are handled, but common threads are:

• No loan contingency
• Sealed bids
• Proof of financial qualifications
• Sizeable earnest money deposits
• Purchase property "as is"

Sometimes buyers are not allowed to inspect the house before making an offer.

Writing Short Sale Purchase Offers

Decide on an offer price. To the extent the seller may face short sale tax ramifications on the amount of debt relief or face a deficiency judgment, the seller will likely not have a stake in the amount that you offer. It will be the lender's call. Above all, write contingencies in your offer such as:

• Subject to the existing lender's acceptance and your negotiation directly with the lender. Ask the seller to give you written authorization to talk with the lender.
• Subject to your loan funding.
• Subject to an appraisal.
• Subject to your approval of title policy commitment / preliminary title report.

Negotiating with Lenders on Short Sales

If the seller has not already talked with the lender, advise the seller to write a hardship letter and FAX it to the lender. Before the lender will consider your offer, the lender will want assurance that the seller has no assets to attach. In addition, depending on the lender, it may also want documentation such as:

• Preapproval letter from your lender.  
• Estimated certified closing statement
• Certified closing instructions.  
• Title policy commitment / preliminary title report.
• Evidence of your earnest money deposit.  
• Profit and loss statement, if you are self employed, and last three month's of bank statements and / or 2 years of tax returns.
• List of recent comparable sales in the neighborhood.