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What is a Short Sale?
A short sale is a form of loss mitigation in which a bank agrees to take a discounted payoff on a mortgage so that the borrower can sell off the home for less than what he owes. Usually, this lets the borrower off the hook for any obligations and allows him to start rebuilding his credit immediately. Short sales work best for people who owe more on their home than it is worth, who can no longer afford to live in their homes, or who are seriously at risk of foreclosure.
The rules for how a short sale is handled depends on who owns the mortgage loan.If the loan is owned by Fannie Mae or Freddie Mac, it is referred to as a GSE (Government Sponsored Enterprise) loan.If the loan is owned by a private lender, it is considered to be a non-GSE (Treasury) loan.
This is a very important point because the federal government has come out with a new program, Home Affordable Foreclosure Alternatives (HAFA) and it provides lenders that participate in the program guidelines and strong financial incentives to help homeowners avoid foreclosure by processing and approving short sales and deed in lieu of foreclosure requests quicker.
The HAFA rules that were announced April 5, 2010 by the Treasury only apply to non-GSE loans. This article only covers the HAFA rules for non-GSE loans.
Both Fannie Mae and Freddie Mac came out with their own rules and guidelines for implementing the HAFA program for GSE loans. See the associated Fannie Mae and Freddie Mac articles for specific program rules.
To find out if Fannie Mae owns your loan, go here. To find out if Freddie Mac owns your loan, go here.
Why do Banks Agree to Short Sales?
Foreclosing on a home is as tedious and costly to a lender as it is to a homeowner. The main reason a short sale makes sense to a lender is that it costs less to them than a foreclosure, both in terms of time and money. A short sale allows them to get rid of a non-performing mortgage without going through the lengthy process of a foreclosure.
Qualifications for a Short Sale
One of the many misconceptions of the process is that anyone can advertise their home as a short sale and the lender has to accept the terms. This is far from the case. In actuality the homeowner and the home securing the mortgage must qualify and be approved.
Not every owner is a short sale candidate, unfortunately, not every owner can be saved from foreclosure.
In the qualifying process, the real estate agent should confirm:
- Whether or not the homeowner has a valid hardship
- Whether or not there is sufficient time to accomplish a short sale – if there is less than two months to list, market and sell the home, many real estate professionals may not consider taking the listing
- That the homeowner will contract with or already has contracted with appropriate tax, finance and legal professionals
- The amount that is owed on the property
- Whether or not the homeowner has liens in addition to the mortgage, i.eg., tax liens, homeowner association (HOA) liens, tax liens, mechanics liens etc.
- The condition of the property – licensed contractors should be consulted for specific repair estimates
- That the homeowner will be cooperative in completing the short sale documentation and in maintaining the property for showings.
Lenders will be looking for the following criteria to be met by both the home and homeowners before considering a short sale:
- A financial hardship must exist and be proven. Loss of a job, loss of income, relocation, illness of the borrower(s) and associated medical costs, divorce, death, natural disaster or declining local market property values are types of hardships most lending institutions will be looking for.
- Borrowers must be experiencing a monthly shortfall. Borrowers may be asked to provide a monthly profit and loss statement or complete a financial worksheet to prove that there is not enough income to pay all the household bills.
- Homeowners requesting to be considered for a short sale must not have the means to repay the deficit. Lenders may request copies of tax returns or other financial statements to determine whether or not a borrower has other means besides income to pay off the short fall.
Process to Complete A Short Sale:
Hire a Real Estate Agent to Handle the Short Sale For You
The complex details involved with short sales and foreclosures are unique calls for specialized expertise.It is recommended that you contact an agent such as myself that has earned the Short Sale and Foreclosure Resource (SFR) Certification through the National Association of Realtors.
List Home for Sale
Make sure the agent list the property in the Multiple Listing Service (MLS).
Call the Lender
Ask the lender for the number for the Loss Mitigation Department.You may need to make a half dozen phone calls before you find the person responsible for handling short sales.
Submit Letter of Authorization to Lender
Lenders 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 need to write a letter to the lender giving the lender permission to talk with those specific interested parties about your loan. The loss mitigation department should be able to tell you the fax number to send the Letter of Authorization to. The letter should include the following:
- Property Address
- Loan Reference Number
- Your Name
- The Date
- Your Agent's Name & Contact Information
Listing Agent Contacts the Lender
Have the listing agent call a couple days later to make sure the authorization is in their system.
Seller Receives and Approves Offer
Receive, accept and sign a purchase agreement from a prospective buyer.
Submit Complete Short Sale Package
Send the purchase agreement as well as a complete short sale package to the bank.The short sale package will vary by lender so it is important to check what the particular lender needs.Some lenders will want it faxed..others want it emailed or delivered hard copy.The package normally includes:
- Short Sale Proposal Letter (Cover Letter)
This cover letter is short and simple and basically states the homeowner is asking the lender for permission to do a short sale.It should include an overview of the homeowners situation, what they owe on the property and what the property is worth.It should also identify the amount of needed repairs and what the offer amount to the bank is.List the contents of the short sales package in your proposal letter or create a ‘contents page’ to facilitate review of the file.
- Short Sale Payoff Application
This application is provided by the lender.The seller should complete the application and it should be submitted as part of the short sale package.
- 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.You will have to submit financial documentation supporting the reason for the hardship (ie unemployment stubs, medical bills etc)
- Copy of Listing Agreement Signed by Both Agent and Seller
- Copy of Purchase Agreement Signed by Both Buyer and Seller
- Preliminary HUD-1 Settlement / Net Sheet
This is an estimated closing statement that shows the sales price the homeowner expects to receive and all the costs of sale, unpaid loan balances, outstanding payments due and late fees, including real estate commissions, if any. Your listing agent agent or lawyer should be able to prepare this for the homeowner.
- Personal Financial Statement - Proof of Income, Assets and Liabilities
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 2 Months 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.
- Copy of Borrower’s Credit Report
- Copies of W2’s and / or 2 Years Tax Returns
- 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). The listing 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 months.
- Marketing History, Showings and Feedback From the Listing Agent
- Copy of Certified Escrow instructions, if applicable
- Preliminary Title Report, if applicable
Note:if there are multiple loans, submission of the complete short sales package will need to be repeated for each lien holder.If there is more than one lien holder, they will generally want payoff information from each other.In terms of the amount of paperwork required by short sales, one expert noted “It takes more documentation to get out of a mortgage than it took to get it in the first place.
Listing Agent Contacts Loss Mitigation Specialist
The listing agent should wait from 3 to 5 days to call the loss mitigation department to make sure they received all the paperwork.
Lender Orders BPO and Determines Minimum Accepted Net Proceeds
The loss mitigator will order a Broker Price Opinion (BPO) for the bank in order to determine the fair market value of the house. The loss mitigator will use the information on the BPO to determine what the banks Minimum Accepted Net Proceeds (MANP) must be in order to approve the short sale.Although the amount the lender is willing to take varies from lender to lender and there is no standard formula to calculate this, the target sales price on a short sale from most lenders is about 85%-88% of the BPO value.
Negotiate the Offer
The lender will either make a counter offer at which point negotiations between the buyer’s agent and bank will commence. 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.Also, the listing agent may negotiate to have the deficiency amount forgiven or canclled, thereby rescuing the borrower from a deficiency judgment
Try to Stop Foreclosure While Offer Being Reviewed by Lender
The listing agent should contact the loss mitigation department and verify that they have communicated with the foreclosure department at the bank and make sure they have stopped the short sale process during the short sale negotiations.
Lender Approves or Denies the Sale
From a lenders perspective, there are many ways a short sales transaction can close, including:
- The lender approves the sale, releases the lien and requires the seller to carry remaining debt on a payment plan
- The lender approves the sale, releases the lien and requires the seller to liquidate other assets to pay some or all of the remaining balance
- The lender approves the loan, releases the lien and forgives the remaining indebtedness.
- The lender denies the short sale
Why Banks Reject Short Sales
Banks demand a plethora of documentation before approving a short sale. Contrary to popular belief, sellers do not need to be behind on making mortgage payments for a short sale to occur. Here are reasons that banks turn down short sale requests:
Short Sale Offer Price is Too Low
Banks will request an appraisal, sometimes several appraisals, and may also order a BPO. When the listing agent submits the short sale offer, the agent should also include a comparative market analysis that justifies the price in the short sale offer. If the bank believes it can make more money by taking the property through foreclosure proceedings, the bank will reject the offer.
The Short Sale Package is Missing or Incomplete
After the listing agent submit a complete short sale package to the lender, confirm that it was received and assigned to one of the loss mitigators and find out who that is.In some cases, it doesn't matter how many times the package is expressed overnight or faxed, the bank might misplace it.They are overwhelmed with foreclosure paperwork, so a call or two may help your package avoid getting lost in the shuffle.Worse, an important document might not be in the file, and without every single required document, the sale will not be granted.
Remember:a buyer’s agent can NOT call the lender to find out if the package has been received – only the listing agent can do this.
The Seller Does Not Qualify
The bank may not believe that the home owner has a justifiable hardship and deny the short sale.Listing agents need to supply as much documentation as they possibly can to prove the hardship.
If the current homeowner is asking for debt forgiveness so the lender doesn’t impose a deficiency judgment later, the bank will want to see a hardship letter from the seller that explains why the seller cannot afford to pay back the shortfall difference.Sellers who have taxable assets are at a disadvantage if the sellers are unwilling to work out a repayment plan with the bank.Prepare a hardship letter, profit and loss statement and monthly budget that show the seller has little or no assets and no disposable income.
Note:Under the new HAFA guidelines, lenders that participate in HAFA waive their right to a deficiency judgment.
The Buyer Does Not Qualify
A desire to buy a home and the financial means to afford a mortgage payment does not mean a buyer qualifies to buy a home. A buyer's lender will examine credit history, length of time on the job, debt ratios, and a host of other criteria to determine a borrower's qualifications. To gain credibility with the seller's bank, buyers need to submit a loan prequalification letter along with the offer, but a loan preapproval letter carries more weight.
The Bank Sold the Loan
Sometimes, the bank won't realize it no longer holds the mortgage on the property until many months have passed by during short sale negotiations. If the bank has sold the mortgage to another lender, the bank has no authority to approve a short sale because it has released the asset. Although the seller may continue to receive statements from the bank, the bank might be servicing the loan but not own it.
The Seller Has More than One Lien Holder and the Junior Lien Holders will Not Approve the Sale
If the seller has more than one lien holder (ie their primary mortgage lender and a different lender who holds either a second mortgage, home equity loan/HELOC,it is a lot more difficult to get the short sale approved as the short sale package must be submitted to ALL lien holders and ALL lien holders must approve the short sale in order for the property to be sold. The listing agent should try to contact all junior lien holders and ascertain what they are willing to accept to release their lien and then make sure this information is included in the Proposal Letter and on the Preliminary HUD-1 Settlement Statement submitted with the Short Sale Package to the lender.
Frequent objectors to short sales include tax lien holders (income, estate or corporate franchise tax - as opposed to real property taxes, which have priority even when unrecorded) and mechanic's lien holders.
The primary mortgage lender will always be in ‘first position’ meaning first in the right to collect from short sale proceedings.The second lender will always be in second position, unless the first is willing to subordinate their position which is unlikely to happen.
In most instances, the first negotiation by the listing agent is to offer the second lender a small amount, say $1,000. This is a very small amount compared to what is usually owed, however, if the second lender refuses and does not approve the short sale, it may ultimately get nothing as if the home goes to foreclosure, only the primary mortgage lender gets anything as all junior liens are wiped out.
At times like these, it seems the junior lender is simply cutting off their nose to spite their face and it makes no sense at all, however, many of them do it. But this is where the first lender can give up a little more to make the deal work.As most lenders in first position are happy to receive at least 90%, see if the agent representing you can negotiate to make sure a reasonable sum is offered to the second lien holder.
The wide array of parties, parameters and processes involved in a short sale makes it a relatively complex and highly specialized type of real estate transaction. Not surprisingly, short sale deals have a high failure rate and often do not close in time to prevent foreclosure when they are not handled by a knowledgeable and experienced professional.
Note: Under the new HAFA guidelines, secondary lien holders are being given financial incentives to approve the short sale, therefore, we may see a new wave of approvals in the near future.
Do I Have to Stop Making my Payments to be Eligible for a Short Sale?
There is no clear cut answer to this question as it depends on the lenders policy.In some cases, you can get a short sale approval without being late with your mortgage payments, however, there have been many reports But they certainly seem to be taking their time on approvals where mortgage payments are current.
When a bank is receiving 2000+ short seal deals a day I wouldn’t be surprised if late mortgages, homes facing imminent foreclosure, or those properties with excellent qualifying hardships get pushed to the top of the pile.
What is a Strategic Short Sale?
The number one rule agents are always faced with when sellers want to do a short sale is the seller has to have a verifiable hardship.Until very recently, an agent wouldn’t take a short sale listing unless the seller had a verifiable hardship.In recent months, things have changed and some lenders have approved short sales who did not have what is traditionally considered to be a "verifiable hardships", as defined by most lenders.
So, what does this mean? My opinion is that lenders are now beginning to look at their "bottom line" profit of a short sale vs. a foreclosure. In other words, most lenders have finally realized that their "breaking point" in terms of bank-owned properties has been reached (i.e., they finally understand that it makes more sense to short sell a home than foreclose and take it back and sell it as an REO).
Now it looks as if the banks are now more willing to sell a home at market value, and they are realizing that current market value (as evidenced by their BPO or Appraisal) is much better than what they would expect to get if they decided to take the home back into their inventory (less the $50-$60k they will spend on a foreclosure). More important, they are willing to "look the other way" when it comes to a "verifiable hardship" in order to make more money.
What is an SFR?
The complex details involved with short sales and foreclosures are unique calls for specialized expertise.Contact an agent such as myself that has earned the Short Sale and Foreclosure Resource (SFR) Certification through the National Association of Realtors and who is committed to helping you understand your options so you can make the best possible decisions for you and your family.
If you are in a situation where your home is “underwater” due to falling home prices, you are unable to make your current mortgage payments and you are considering pursuing options such as a short sale, deed in lieu of foreclosure, strategic default or even foreclosure, there could be drawbacks that I, as a real estate agent, cannot advise you on.For your protection, I suggest that all borrowers:
- Obtain legal advice from a competent real estate lawyer regarding deficiency judgments
- Call an accountant or CPA to discuss short sale and foreclosure tax ramifications
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 or foreclosure 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.
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