by Nick Gromicko and Rob London
A "short sale" is a real estate sales transaction in which the seller's mortgage lender agrees to accept a payoff of less than the balance owed on a property's loan. This typically happens when a borrower can’t pay the remainder of the mortgage loan on their property, but the lender decides that selling the property at a moderate loss is a better alternative than foreclosure.
Short sales are different from foreclosures because the lender forces a foreclosure, while both lender and borrower consent to a short sale. Consent between these parties may suddenly change, however, such as if the borrower becomes obstinate and forces foreclosure, or if the lender disapproves of the sale price. If the property is collateral for a second mortgage from a different institution, it, too, must agree to the short sale, which may further complicate the transaction.
Short Sales from the Lender’s Perspective
Short Sales from the Seller’s Perspective
Typically, the following conditions must be present in order for a short sale to be approved:
- The property’s market value has dropped.
- The mortgage is near or in default status.
- The seller can prove that they have few assets. Tax returns and financial statements may be required to prove that the borrower has no stocks, bonds, or other real estate, for instance, which may be used to pay off the balance of the loan.
The borrower has fallen on hard times. The seller is required to submit a letter to the lender that describes why they cannot pay the difference due upon sale, and how they wound up in financial hardship. This plea to the lender to accept a loss, known as a letter of hardship, may include the following acceptable explanations:
- medical emergency;
- bankruptcy; and/or
The following circumstances are generally not accepted "hardships":
- bad purchase decisions, such as gambling or vacationing;
- unhappiness with the neighbors, such as if a meth lab opened up next door;
- buying another home. If you can afford another home, the bank will wonder why you can’t pay off the one in which you currently reside;
- pregnancy. Lifestyle decisions aren’t taken seriously in letters of hardship; or
- moving into an apartment.
If you are considering the purchase of a short-sale property, here are some tips:
- Obtain legal advice from a competent real estate attorney.
- Consult with an accountant to discuss the tax ramifications of buying a short sale.
- Hire an InterNACHI inspector to inspect for problems typical of short sales and foreclosures, such as pests, mold, water damage, and/or structural defects. Realize that short-sale sellers have fallen behind on their mortgage payments, making it likely that they have neglected basic building maintenance and repair, or even intentionally abused the building. Presale inspections, which are suggested for all real estate transactions, are as critical for short sales as they are for foreclosures.