What is a Short Sale? A Great Way To Get a New Start

Today’s question is, what is a short sale?

We are going to be discussing the basic elements related to a short sale transaction.

Short sale definition

A short sale is any real estate transaction where the net proceeds from that sale aren’t sufficient to satisfy the underlying mortgage debt.

You are upside down, or you are “underwater” on your home. Effectively, your home is worth less than you actually owe on it, which leaves you with a “deficiency balance” after the sale.

That is your basic definition of a short sale, but there are a few other things you should know if you’re considering a short sale...

Historical background of short sales

Next, we’d like to give a little background information on short sales.

Just to give you a bit of historical perspective and context as to how short sales emerged: during the housing crisis, millions of homeowners turned to short sales as an alternative to foreclosure. They did this, mainly, in order to soften the blow to their credit score and help preserve their credit to the best extent possible.

The short sale applicants would submit their borrower financials (all related financial documents & paperwork to support their case). These would then get reviewed by the investor that owns the debt (the lender), and they would decide if a short sale was appropriate under the circumstances.

Is it legal for me to do a short sale?

That brings us to point three, legality: Can I simply walk away?

Are you asking yourself:

Is it legal for me to do a short sale?

Can I stop paying on my mortgage?

Can I break my contract with the bank and default on my mortgage debt?

The answer is yes.

It’s important to know that there are legal consequences to defaulting on your mortgage; namely, you’re initiating the foreclosure process.

But, by doing that, you’re effectively forcing the lender’s hand to consider the alternative (a short sale) in order to get you out of a bad mortgage debt situation. And oftentimes it makes a lot of sense to do so.

A short sale presents you with an opportunity to get a fresh start.

To stop throwing good money after bad. To stop wasting your retirement and your savings on attempting to save a house that’s upside down, and that you may never see equity in ever again.

More importantly, a short sale presents you with the opportunity to bring peace and resolution to your mortgage debt dilemma.

Thinking about applying for a short sale? Take advantage of a free, no-obligation consultation with myself or another of our attorneys and find out if it’s the best option for your situation.

How a short sale works

Once you decide to do a short sale on your home, it’s time to find a buyer.

We pair our clients up with a listing agent who will take care of the real estate side of things, like marketing your home, staging it, listing the home - everything it takes to get an offer. It can be hard to predict how long this step will take, but it often takes up to one month or more for many of our clients.

Some homeowners might think it’s best to approach the bank to get approval on a short sale before listing the home and getting an offer, but think about it from the bank’s perspective. What do they have to approve? The first thing they’re going to want to know is how much they can get for the home, i.e., an offer. So we always do that step first.

What if you have a friend or family member who wants to buy the home?

One thing you need to know is that you can’t just tell the bank, “I have a buyer - my friend wants to buy my home.” There are guidelines that must be followed in terms of listing the home. The bank will want to make sure that they are getting the highest offer possible on the home, and without listing it, they won’t be sold on approving the short sale.

So once the home has been listed, and once there is an offer, the real work begins.

We’ll package the offer together with the seller’s financial situation, and show why the short sale makes the most sense for the bank. And then the back and forthing begins. There will be offers and counter-offers, value disputes, letters of explanation, further clarification of the seller’s situation, and then some. This accounts for a majority of the timeline of the short sale, and where having a professional on your side can prove extremely worthwhile.

What to expect

Some of the most common questions we get asked by homeowners who are considering doing a short sale are:

  1. 1. Will I be on the hook for any remaining balance after the short sale is done?

The whole premise of a short sale is that the amount the house will sell for isn’t enough to cover what is owed on the house - thus the bank gets shorted. That leaves what’s called a deficiency balance (the difference between what is owed and what the home was sold for).

A lot of our clients wonder, “is the bank going to come after me for that amount?”

If we do our job as real estate professionals, and are able to get the bank to accept less than what is owed and agree to waive the deficiency balance (from a liability standpoint), then you would have nothing to worry about.

The truth is, getting the bank to approve the short sale isn’t the hard part. The tricky part comes in negotiating with the lender to fully release you from the deficiency and any future liabilities.

This can be especially challenging when there are two liens on the home (as in a second mortgage, or HELOC [Home Equity Line Of Credit]).

While getting either lienholder to release you from a deficiency liability is difficult, it is often much harder to convince a junior lienholder to give up their right to pursue you for further debt.

In situations like this, it is in your best interest to get an experienced attorney on your side who can negotiate these terms on your behalf, and work to make sure you aren’t stuck with any remaining balance. At Ark Law, we make it easy for you by doing all of the heavy lifting, and helping you stay hands-off in the proceedings.

Plus, we have an excellent record of success in getting our clients “off the hook” for any remaining deficiency balance after we negotiate their short sales for them.

Curious what your chances of success are? Call our offices at 1-800-603-3525 and ask for me, or another of our attorneys, and get free legal advice for your situation.

  1. 2. How is a short sale going to impact my credit?

To be blunt - a short sale isn’t going to make your credit score higher.

But you probably already knew that, didn’t you?

The truth is, it impacts everyone differently, and there isn’t a set number I can tell you that you’ll sink to, or how many points you’ll lose.

Each month that you’re missing a payment, it’s being reported as a delinquency to the credit bureaus, which isn’t doing you any good.

Then when the short sale (or alternative) takes place, there will be another negative credit reporting event, whether you choose to do a short sale, deed in lieu of foreclosure, or foreclosure.

In all honesty, in our experience, the initial impact of a short sale and foreclosure are about the same. There’s a negligible difference.

The key difference is the “cooling off” period...

Those who have been foreclosed on will take much longer to restore their credit as compared to someone who did a short sale.

The other big difference is how soon will you be eligible to borrow federally backed funds (Fannie Mae & Freddie Mac) again.

The guidelines on this point change frequently, but generally, after a foreclosure, you might have to wait up to 7 years to borrow federally backed funds again, whereas sometimes homeowners who did a short sale can be qualified as quickly as just a couple of years.

In the end, any prospective creditor will look more favorably upon a short sale than a foreclosure.

  1. 3. Does doing a short sale expose me to a tax liability?

The truth is, if we’ve done our jobs as real estate professionals, and we’ve successfully negotiated the short sale, the lender(s) will forgive any remaining balance, and that deficiency liability will be resolved. That’s the good news!

However, by doing that, we may expose the homeowner to tax liability.

See, we dealt with the bank, they forgave the debt, and now Uncle Sam sees that active debt forgiveness as a taxable event, resulting in “cancellation of debt (COD) income.” This gets added onto your income on your tax return, and there may or may not be some liability associated with that.

For example, if your bank has forgiven $100,000 as part of the short sale, do you then have to pay taxes on that $100,000?

If the home was your primary residence, then chances are, no, you won’t have to pay taxes on it. Under the Mortgage Debt Forgiveness Relief Act, you the borrower are shielded from any tax liability on forgiven debt following a short sale on your primary residence. (To qualify as your primary residence, you have to have lived in the home for two of the last five years.)

You should know that the Mortgage Debt Forgiveness Relief Act is slated to expire at the end of this year (2016). (While it has already expired numerous times, it keeps getting renewed, but there’s no telling whether or not it will get renewed again this time.)

Regardless of that act’s status, if you lived in the home, chances are you will be ok...

If you got a second mortgage (HELOC) and used that money towards something else (say, a car), and the second lender forgives the debt, that part that was used for something else will not qualify for principal (debt) forgiveness.

There is one final exemption to keep in mind, which is the “qualified principal residence exemption.” If it’s a second property, or a rental property, you may qualify for another “insolvency clause” (which a lot of our clients qualify for).

To find out if you will be held accountable for any tax liability, call our office for your free, no-obligation consultation.

  1. 4. What’s the timeframe? How long is this short sale going to take?

Let’s be clear - there’s nothing short about a short sale...

It’s important to know, going into it, that it might take up to 6 months or more.

When you partner with a team like Ark Law Group to handle and negotiate your short sale for you, you’ll mostly be waiting around, living life as normal in your home, while we do the heavy lifting to get your short sale pushed through.

You will want to check in with us periodically to get any updated bank statements, pay stubs, and the like over to us, to make sure we have all the info needed to fight for you, but that’s about it.

You won’t need to worry about talking to the bank, or explaining your situation to a bank rep who’s just trying to shake you down for money. We’ll take care of all that for you. But be prepared to hang on for a bit.

If it were that easy that it could be done overnight, buyers would just do it themselves, and we wouldn’t be in business! It’s really not for the faint of heart, to be honest.

The buyer should also realize that it’s not going to be overnight, and while they’re going to get one heck of a deal on the house... they’re going to need to be a bit patient, too.

It might take upwards of 6 months for us to get the third party’s consent. There’s a lot that goes into convincing the bank to approve a short sale. We’ll put together all of the paperwork (and there is a lot of it!), negotiate with the bank, and go through all of the back and forthing on the fair market values and value disputes, etc. We keep our clients in the know on what’s going on, but you won’t have to worry about all of these points if you choose to have us negotiate your short sale.

Is a short sale right for you?

Deciding whether or not to do a short sale is a tough decision. Embarking on the journey alone can be even harder. You’ve got Ark Law Group on your side - we will fight for you. I invite you to call and discuss your situation and learn about each of your options before you move forward in either direction.

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