A Buyer’s Guide to Short Sales
What is a "short sale"?
A "short sale" is a situation where a property owner/seller is trying to sell a property where the sales proceeds does not pay off the existing mortgage(s). The owner/seller has no equity. The term "short sale" or "short pay" refers to a process whereby the mortgage company must agree to a reduced payoff (“short” the payoff, thus the term “short”) for the sale to take place.
All the costs of the sale, the escrow/title fees, transfer taxes, commissions, property tax prorations, etc. must be covered and the seller receives nothing (except debt relief.)
Why Would a Mortgage Company Allow This?
A mortgage company/lender may agree to a "short sale" to prevent a foreclosure. Most short sale properties are in "default". The owner may be behind on their mortgage payments and/or the property taxes and the expenses are adding up. The property is the security for the mortgage and if the lender takes the property back in a foreclosure, the lender will then own the property and will have to sell it on the open market. The lender will incur all the foreclosure costs as well as the selling costs. If the market value of the property is less than the loan on the property, the lender may cut their losses by agreeing to a "short sale."
Also, too many foreclosure properties limit a Mortgage Company’s lending ability.
Why Would the Seller Want This?
The Seller doesn’t WANT the house anymore, for whatever reason. He/she/they have moved to another city, lost a job, gotten a divorce, changed financials…. whatever but they don’t want to own the home anymore. If they are allowed the short sale, they will not owe the bank money after the closing, usually. On a foreclosure, the lender has the right to go back to court and sue for the difference between what they sell the home for, and their out of pocket costs on the home from the foreclosure process…as well as the loan shortage.
The Seller’s credit scores will drop about 250 points or so with a short sale, and they drop 350 or so with a foreclosure.
If it is so Easy, Why Don’t they ALL do this?
The problem is that mortgage company/lender does not own the property, only the mortgage; they do, however, have to agree to the "short sale" for the sale to go through. If they do not agree to forgive the loan shortage, and if the seller is unwilling or unable to make up the shortages to complete the sale, there is no sale! If you’re the buyer in such a transaction, you’ve just lost out and wasted valuable time. The seller can’t sell if the mortgage company disallows the "short pay" and the deal dies.
If there’s no equity, why would the mortgage company disallow the sale?
Here’s where logic disappears. Many times the department that handles the "short pay" negotiations, sometimes called the "workout" department in loan servicing, is not interested in saving the bank money. They are only interested in recovering the debt. Even if it would cost the bank more to foreclose, they’ll sometimes hold out if they think the owner has assets. Even if it means losing you as a buyer and the sale falls through.
They will want to see the owner’s financial statements. If there are any assets available (savings, 401K, IRAs) they want the owner/seller to deplete those assets before the bank agrees to a "short pay."
They sometimes want the real estate agents that are trying to make the deal happen, reduce their commissions.
If there are any "junior liens" or second mortgages, they’ll be wiped out, and sometimes these second mortgage holders want to go after the seller to recover money.
The bank’s decision process takes time, and meanwhile, if you’re trying to buy the property, you wait. And wait. And wait……. The odds are about 60/40 that the sale will be allowed. Just because the seller agrees to your price does not compel the bank to agree to a "short pay."
But I really want that Home!
How can you increase your chance of success? Let’s consider a strategy to maximize your odds of acquiring a "short sale" property. You’ll still have to be patient since every situation is different. Above all, understand that many "short sales" are not successful.
The first step is work with a broker/agent that understands the process. This is so very important. If the "listing agent" has little or no "short sale" experience, the odds are against you and your "buyer’s agent."
The listing agent must do their homework ahead of time, before your offer is written, because the listing agent will have to build a compelling case for the lender to accept your offer.
Unfortunately, the bank usually won’t talk to the agent unless they HAVE a contract….but they might have an on-line place to get a short sale packet.
The listing agent should have a list of the bank’s required documents and should have collected everything in anticipation of your offer. The file will need the seller’s financial information, tax returns, retirement fund statements, bank statements. They will also want a “hardship letter” describing why the Seller deserves a short sale.
If the property needs repairs, there could be inspection reports, repair estimates and photos of the property that you include with your offer.
The listing agent should provide the bank with a "CMA", a comparable market analysis to help substantiate your offered price. The listing agent should also provide the bank with a marketing history of the property, newspaper ads, MLS printouts, all to prove that the seller tried to sell for more and isn’t just "dumping" the property.
Here’s another wrinkle. There is a high probably that even the seller’s mortgage company may not have the final say. Most loans are insured, so the MI (mortgage insurance) company will have its own set of guidelines and requirements since they’ll have to reimburse the mortgage company for all or a portion of any loss. They may have the final authority to approve a "short pay."
So you see, there are barriers to your purchase that are beyond the control of the agents, the seller and even the seller’s mortgage company.
"Short Sales" can happen! Missy and I have successfully completed every "short sale" I’ve started that received an offer. The only time we have NOT been successful is when the Seller didn’t contact us in enough time to save themselves….and we couldn’t draw an offer on the property in time…and then they go to foreclosure.
How To Protect Yourself During the Process:
Your offer should include an escape clause if the bank/MI company does not give a favorable response within a reasonable time period. If the sale is not approved by the bank AND the MI company within a certain time frame, you should be able to terminate the transaction, get your deposit back and look for another property.
In Kansas City, our board has a certain Short Sale Addendum that accompanies properties, also. Missy and I always write clauses in the main contract that allow our buyers to cancel the contract at any time PRIOR to acceptance…that way our buyers can write an offer, but keep looking for a better deal!
Make sure any contingency time periods start AFTER the bank/MI companies give approval. Don’t spend money for appraisals and inspections before obtaining bank/MI approval.
If you’re getting a loan, you MUST get approved before making an offer. These lenders absolutely require it…and no contingencies on the sale of your home, either.
Also, nothing happens evenings and weekends, unless it is a local bank.
While you’re patiently waiting for an answer from the bank/MI company, the property usually remains on the market and the listing agent must present all offers to the seller. You could be "bumped" at any time.
So…. If you’re willing to wait 2-4 months, go for it! There are some incredible deals to be made!
Hopefully these tips will help you manage your "short sale" expectations.
