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Have you ever wondered why banks are not modifying many mortgages, and instead are letting homes go into foreclosure?
Short Sale Tips For Home Owners
If you are a homeowner looking for short sale information, you have found the right place. The following 10 lessons include the most comprehensive and accurate information on short sales you will find anywhere. The information you are about to read has been researched for nearly a decade (before most of America knew what a short sale was). So spend as much time here as you need. This was created for you.
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is the question on everyone’s minds these days. A concept that has been around for a very long time, a short sale in real estate is where a mortgage company looks to cut their losses by agreeing to a reduced payoff of their loan in exchange for not having to foreclose on the property. The phrase “short sale” was coined by mortgage companies to describe selling their loans short. Since a mortgage company experiences substantial losses when they become a property owner through the foreclosure process, the option to get rid of the property by agreeing to sell for less than their full payoff can be financially appealing.
In a short sale situation, the borrower is still the owner of the property. Unlike a foreclosed property where the mortgage company is the owner. In a short sale, the person selling the property is the homeowner. In addition, however, the homeowner must also obtain final approval from the mortgage company in order for the transaction to be completed. This creates a dual approval process because both the homeowner and their mortgage company must agree to the terms of the offer the buyer makes in order for the deal to consummate. Obtaining efficient approvals from mortgage companies is an art in and of itself which is why most borrowers should seek competent short sale specialists. Further, since the short sale approval process does not commence until an offer is made by a buyer, it is far better to work with a real estate broker who is well connected with credible real estate investors, as opposed to an ordinary real estate agent, if you are faced with a short sale situation.
Why are so many people asking, “what is a short sale?” these days?
There has been a major rise in short sales in the past few years due to a combination of over-borrowing/over-lending, a temporary decrease in real estate values and a sudden rise in unemployment. It is now estimated that nearly 10 Million Americans owe lenders more than the value of their homes. Many of these people need to sell their house right now because they are unable to afford their mortgage and are about to fall behind on payments, already are behind or possibly even facing foreclosure.
The good news for these homeowners is that they have a way out; the short sale. And a short sale helps the homeowner avoid foreclosure, it helps the lender save money, it helps the buyer get a great deal on a house and it helps all the professionals involved in the transaction. It’s one of the few win-win deals in real estate.
Is a Short Sale Really Better Than a Foreclosure?
With nearly 50% of all real estate transactions involving either a short sale or a foreclosure, many people have asked me if a short sale really is better than a foreclosure. And the answer is, “YES!’ First of all, in a short sale situation you have the option to keep payments as current as possible which can minimize the credit bureaus' FICA score destruction. Secondly, the credit report itself will usually reflect language that is far less serious than the word “Foreclosure”. Underwriters unanimously agree that the word foreclosure on a credit report is as bad as it gets. If instead, it shows “Settled as Agreed”, which sometimes happens with a short sale, although it is not as good-looking as “paid in full”, it is far better than the word foreclosure. Many underwriting guidelines prohibit lending to borrowers who have foreclosure on their credit report. However, these same guidelines oftentimes do not have an problem with the phrase, “settled as agreed.” In other words, a short sale is looked upon as a settlement, which usually takes 3 years to clear up. A foreclosure lasts 7 to 10 years.
We’ve talked at length about how a short sale impacts a credit score and a credit report. But there is an even greater reason why a short sale is a far better option than simply allowing a foreclosure to take place. A nasty financial term called a deficiency is the result of a lender losing a portion of their investment and then turning around and trying to collect from the borrower the amount of the short fall. With a short sale, the deficiency amount is usually far less than with a foreclosure. When a property becomes a foreclosure, it typically fetches less from buyers because the word foreclosure is attached to the listing. Buyers interpret a foreclosure as ripe for the picking and purposely offer less. The less the property sells for, the larger the deficiency and the more the borrower is responsible for paying back! Who wants to be in that position?
With a short sale, most lenders do not attempt to collect on the deficiency, opting instead to simply issue the borrower a 1099C Forgiveness of Debt Form. This is an IRS requirement. Thankfully, for most borrowers, the Mortgage Forgiveness Debt Relief Act of 2007 is their get-out-of-jail free card when it comes to this 1099 issue. For a minority of borrowers who have to do a short sale on an investment property, an intelligent professional tax adviser who understands insolvency is the best shot at circumventing the tax consequences of a 1099. In either case, a 1099 is almost always a better route to take than a deficiency. If a true deficiency is acted upon, as is common when someone lets a property go back to foreclosure, it can result in a judgment that a court can order to be collected upon through garnishment of wages. That’s scary.
How Does a Short Sale Affect a Credit Report?
It is a very hot topic these days, how a short sale affects one’s credit report.
After a short sale transaction is complete, the lender is going to report to the three credit bureaus (Equifax, TransUnion and Experion) that a short sale was conducted on the loan, as opposed to a full payoff. Although lenders are subject to change their policies on a moment’s notice, we have seen Countrywide report, “settled as agreed”, Litton Loan Servicing report “account settled”, HFC Beneficial report “settlement in full” and HSBC report, “Account legally paid in full for less than the full balance”. This terminology is very similar to what credit card companies report when a borrower settles an old collection for a percentage of the total amount owed.
In most cases, the short sale approval letter will specify the exact wording the lender is going to report to the bureaus. You should contact the department handling the short sale to determine how it is going to be handled. I hope this helps you understand how a short sale affects a credit report.
How Does a Short Sale Affect a Credit Score?
The #1 concern of homeowners is "How does a short sale affect my credit score?" Let’s define what a credit score is first before we embark on how a short sale affects your score. Your credit score is actually a formula developed and maintained by a private company called Fair Isaac Company, Inc. The score is determined on a weighted scale with Payment History and Amounts Owed weighted far heavier than Length of Credit History, New Credit and Types of Credit Used. See FICO Basics for more detailed explanation.
Since Fair Isaac invented and continues to maintain the credit score formula, naturally, we should ask them how a short sale affects a credit score. The question posed to MyFICO.com was, “How does a foreclosure or short sale affect my score?” Their response was:
“Credit bureau reports are limited in how they represent foreclosures today, so its generally not possible to tell from the credit report if a reported foreclosure is a short sale, deed in lieu of foreclosure, settled account, regular foreclosure or some other variation. The FICO score treats all of these descriptions that appear on credit reports as serious delinquencies, so they have an impact on the score similar to the impact from a charge off, tax lien or account included in bankruptcy.”
Not what you were hoping for, huh? As it turns out, the credit score itself is not necessarily helped by a short sale over any other seriously delinquent account, such as a foreclosure. So the initial score decrease will be the same — experts say a ballpark of 100-200 points on a scale of 300 to 850. And the higher the credit score the greater the fall.
But the report itself looks far better, being that most underwriters agree that a short sale looks better on a report than a foreclosure. When you’re doing a short sale it shows that you’ve actually done something about the foreclosure, versus letting it go to foreclosure. In fact, FHA has developed a loan program just for borrowers who have had a short sale.
Also, there is one way to minimize your credit score reduction when dealing with a short sale. Try to avoid allowing the payments to go behind. That maybe easier said than done and I know that sounds like an oxy-moron, doing a short sale while keeping the payments current, but it can be done. The most destructive item to your credit score is the late payments. When it shows 30 days late, then 60, then 90 then 120+ days late, that’s when the credit score takes it’s biggest hit. So if you can squeak by and keep the payments from falling 30 days late, you stand to really minimize the damage to your score from a short sale.
What are all the Steps in the Short Sale Process?
The short sale process has been misunderstood by many industry professionals and I am here to reveal the real story. The short sale process begins only when offer is submitted to the lender. Without an offer from a buyer, lenders will not even begin the short sale process.
Once a lender has an offer in hand, they typically request financial information from the borrower. Most assume that this request for financial information is used by a lender to prove that the borrower has a financial hardship. That is true, however, the main reason a lender requests this information is so that they can determine what assets the borrower has (to which they can go after to off set their losses).
Once the lender has the offer from the buyer and the financial information from the borrower, the lender must then determine if the offer fits within their short sale approval formula and guidelines.
Once the lender has their property value and marketability data in hand, the short sale process is just about over. The last step is done behind the scenes. Since most lenders don’t actually own the loans they service, they actually have to submit all this information to the loan owner for final approval. Within a few days, the loan owner responds with the lowest number they will approve. And with the loan owner’s OK, the lender can send the approval letter to the prospective buyer.
In the event the offer is too low, most lenders will counteroffer at the property value amount. This has been the source of tremendous confusion. Most buyers think lenders will take a discount in a short sale situation. “So why does the lender counteroffer at the appraised value?” is what most buyers ask who are not trained on negotiating with short sales. That’s where it pays drastically to be working with a short sale expert. They know how much the lender will approve based on the BPO (Broker Price Opinion)/appraisal value the lender determined. And that is the real story revealed of the short sale process.
What are the Tax Consequences of a Short Sale?
DISCLAIMER: The following is not tax advice. Please consult a licensed tax professional for any tax related questions.
Are there any tax consequences triggered from doing a short sale? Unfortunately, there can be. IRS has a rule that when any lender forgives a borrower more than $600, the total amount forgiven is to be reported to the IRS in the form of a 1099C "Forgiveness of Debt". In short sale terms, what that means is that when a lender agrees to a short sale, if they decide to forgive the borrower what they lost, they are required by the IRS to send a 1099C in the amount of that loss. If you have ever been paid money and in January receive a 1099 in the mail for the amount you earned, you’ll be able to relate to how large the tax liability can be and the amount of income taxes you have to pay on a 1099. It’s not fun.
You may be scratching your head in bewilderment as to how the IRS could recognize debt forgiveness as income because you as the borrower never saw a dime of that money in your bank account. As unfair as that may be, the tax consequences of a short sale could be that the lender issues the borrower a 1099C in the amount of the loss.
Now that you are completely panicking, I have some good news for you. There are two different forms of tax liability relief for borrowers who are going through a short sale. The first “get-out-of-jail-free-card” for borrowers doing a short sale is the Mortgage Forgiveness Debt Relief Act of 2007which provides a way for borrowers to avoid the tax liability triggered by the 1099C Forgiveness of Debt Form (so long as the property has been their primary residence). There are some additional restrictions that apply so borrowers should always consult a competent tax adviser before assuming they are free from any tax consequences from a short sale on their primary residence. However, this little piece of legislation has been a wonderful tax consequence gift for many borrowers the past few years.
But what about doing short sales on investment properties, real estate that is not a primary residence? That’s what the next tax relief strategy covers.
The second way to maneuver around the tax consequences triggered by a short sale is if the borrower can be recognized as “insolvent” at the time the short sale was closed. This is a little known part of the IRS tax code, “Insolvency,” which allows borrowers to avoid paying income tax on any 1099Cs that are triggered from losses so long as they were flat broke when those 1099Cs were triggered. There are quite a few restrictions to qualify for insolvency so you certainly need to communicate with a tax expert who understands it. This second tax liability relief strategy is ideal for those who are doing a short sale on a non-owner occupied investment property. It was originally created to help those who filed bankruptcy and then at tax time would be “kicked while down” and required to pay income tax on the losses the lenders incurred from the bankruptcy. Smart tax professionals can use this same loophole to help those who have done a short sale on an investment property.
The only way in which a short sale does not trigger any tax consequences is when the lender does not “write off” the loss or forgive the borrower, but instead, opts to hold the borrower responsible for the loss. This is often the case when a property goes to foreclosure. That’s one of the many reasons why a short sale is far better than a foreclosure. If the lender holds the borrower responsible for the loss, a 1099C Forgiveness of Debt form is not issued, but instead, the lender pursues the borrower for the lost money. They may, at that point, file a judgment with the courts, which then makes the situation a lot whole uglier than it already is. To me, that is a much more destructive outcome.
Should I hire an agent for my short sale?
Should homeowners who need a short sale hire a real estate agent / Realtor® or an investor for their short sale? As a long time real estate Broker and investor as well as licensed real estate agent, I have a unique, balanced and unbiased perspective on this subject. Before we answer this question, let’s start with a brief story lesson.
Until while back, investors were among the only real estate professionals in the marketplace that homeowners could turn to for help with their no equity short sale situations. I can so vividly remember asking real estate agents and Realtors® what they did with the potential no equity listings that came across their desk. The common response was, “nothing.” In fact, those no equity leads would then be forwarded to us and other short sale investors across America and we would proceed to help the homeowners avoid foreclosure by purchasing their upside down house through negotiating a short sale with the lender.
Recently, short sales have become such common phrase that the National Association of Realtors® eventually noted : “short sales and foreclosures represent the new ‘traditional’ real estate transaction.” With nearly half of all residential real estate transactions in America either a short sale or a foreclosure, real estate agents have quickly adjusted their positioning. Now, thousands of Realtors® trumpet themselves as short sale specialists. But the question remains, are all real estate agents the best option for handling homeowners who desperately need a short sale?
Since licensed real estate agents and Realtors® handle the vast majority of real estate needs, one would assume that any of them are the obvious choice for homeowners to handle their short sale. Banks and Asset managers, Approved Brokers/Agents with REO and BPO certifieds are far better choice for homeowners principally because regular agents have some massive disadvantages when it comes to short sales. This is NOT to say that regular Realtors® are less capable or less knowledgeable certainly not. It’s just that with short sales specifically, average agents have their hands tied behind their backs and the Certified one's don’t. basically the inside connections makes a whole difference in the approval of the short sales. Let me explain.
Only Offers Start the Short Sale Process
The short sale process with the lender does not begin until an offer is made on the property. Homeowners may feel as if they are making progress by sending the bank their financials, a hardship letter or any other hardship package document But the fact of the matter is that the lender will not recognize the file as a short sale until an actual offer is sent to them for review. For the homeowner who simply wants to get rid of their property prior to a foreclosure, what they need more than anything is an approval on a offer . at this point negotiation skills and prior connections of the Agent or Broker and Specific knowledge of the market and banks requirements to accept the offer as well as knowing who to contact is coming handy and saves hundreds of hours time and effort for the Bank, agent, homeowner and the investor . Agents provide the service of trying to locate a buyer or the right investor who can make a cash offer and that by itself makes a big difference in the negotiation and approval of the offer. Therefore our knowledge and service as an expert and approved realty house, provide the EXACT service a short sale homeowner needs.
Can I Short Sale My Own Home?
The short answer is “No”. You need an offer from a buyer in order to get the short sale process started. Where do you get that buyer? As we discussed in the above section," Should I hire an agent or an investor for my short sale?"
the best person to get an offer from is an investor. Where can you get that? Fill out the form on our contact listand one of our short sale specialists closest to you will contact you immediately.
What can you do to be proactive? You may be able to give the short sale process a head start by faxing your lender(s) all of the components of the short sale package, including a current financial statement, a hardship letter, your bank statements, pay stubs, tax returns and any other financial documents your lender needs in order to process a short sale request.
Lenders are very serious about homeowners not receiving any benefit whatsoever from a short sale. That means you cannot do your own short sale and buy the property from yourself, you can’t sell it to a relative who will then allow you to lease the property back from them. When you do a short sale, you have to be willing to wipe your hands clean of the property and move on.