Short Sales have become the most popular and most successful alternative to foreclosure. A short sale allows the homeowner to sell their property and avoid the negative aspects and damage of a foreclosure and eviction. A new federal plan called the Home Affordable Foreclosure Alternatives (HAFA) Program has made short sales even more viable by providing cash incentives to homeowners, lenders and servicers. A homeowner can avoid foreclosure, sell their home for less than the mortgage balance and get paid up to $10,000 by completing a short sale.
Your lender is under no obligation to agree to or even consider a short sale. Therefore, you must request a short sale and negotiate the terms with your lender and all other liens or encumbrances that affect the home (i.e. HOA liens, child support, judgment liens). Obviously, there are serious legal (and tax) consequences to a short sale, and that is why we suggest the services of a broker/attorney.
WHAT EXACTLY IS A SHORT SALE?
A short sale occurs when your lender(s) agrees to the sale of your home for an amount less than the outstanding mortgage balance (the sale is “short” of the payoff). Your lender’s approval is required because it has a lien on your property that must be released to allow for the transfer to the buyer. In a “regular” sale the mortgage would be paid in full and the lien would be released, but in a short sale, there isn’t enough money to pay off the mortgage. Therefore, without approval from the lender to release the lien “short” of the full payoff, the sale wouldn’t be possible.
WHAT ARE THE QUALIFICATIONS FOR SHORT SALE?
To qualify for a short sale, you must owe more on your mortgage than the property is worth and have a documented hardship which has made the mortgage unaffordable (or has caused your inability to pay). Some examples of acceptable hardships for a short sale include a decrease in pay, job loss, medical problems, death, divorce, significant interest rate increase, or other similar change in circumstances that makes it extremely difficult to pay your mortgage. HAFA short sales have some additional requirements which are set forth on our HAFA page.
SHORT SALE BENEFITS TO THE BORROWER
A short sale can provide you with a number of benefits:
- You will remain in the property during the negotiation and short sale process (which can be as long as 6 – 9 months).
- You will have time to save money and make other living arrangements.
- You will avoid foreclosure and eviction.
- You will be able to negotiate deficiency issues (more on this below).
- You will limit the damage to your credit (as compared to a foreclosure).
- It won’t cost you anything (and with Lawyers Realty Group, you will have free legal advice during process).
- You could be eligible for $10,000 under HAFA or even $5,000 under some lenders’ short sale programs.
SHORT SALE BENEFITS TO THE LENDER
The foreclosure process is costly and time consuming for the lender. A short sale allows the lender to avoid those costs and wasted time, and can also limit certain legal risks to the lender like a borrower filing bankruptcy or renting out the home. A short sale lets the lender avoid becoming the owner of the property post-foreclosure which would require them to maintain and insure the home. The lender would prefer a quick sale while you are still the owner rather than taking the property back as an REO and having to sell in a difficult market.
IS A SHORT SALE RIGHT FOR ALL BORROWERS?
There are a number of situations where the legal consequences of a short sale can put the borrower in a much more precarious position than following another option. Most of these issues can be avoided by properly negotiating with the lender, but in certain limited situations, a borrower is better served by allowing a foreclosure to continue. Each situation is distinct and only a real estate attorney can make the legal determination whether a foreclosure provides more protection for the borrower. You must seek the advice of a real estate attorney and CPA to determine if a short sale would negatively affect your situation. Lawyers Realty Group can help you make this determination and evaluate all your options.
BREACH OF CONTRACT/LEGAL NEGOTIATIONS
It is very important to understand that once you have defaulted on your loan, you are in breach of contract. The short sale process involves legal settlement negotiations for the resolution of your breach and a limitation on damages. In fact, you are assisting in the mitigation of damages to the lender by cooperating in the disposition of the home. Because of the legal nature of this settlement negotiation, we believe you are ill-served if you forego legal representation in the process. We also understand that most people facing financial difficulty simply don’t have the money to retain an attorney. That’s why we formed Lawyers Realty Group. Your lender has a lawyer, and you should too!
DEFICIENCIES AND DEFICIENCY JUDGMENTS
Just because the lender agrees to allow a sale of your home for less than the mortgage balance, that doesn’t mean the unpaid balance of your mortgage goes away. One of the most important negotiation points of a short sale is having the lender waive its right to collect the DEFICIENCY (i.e. the amount left unpaid). If the lender doesn’t waive the deficiency, the borrower can be subjected to future legal action for the collection of that amount (known as a “Deficiency Judgment”).
An outstanding, unaddressed deficiency is a ticking time bomb. In California, a lender may have as long as 4 years to commence legal action against the borrower after the original default. This means the borrower is in jeopardy for years after foreclosure or short sale. Once the lender obtains a Deficiency Judgment from a court, they can start drastic collections procedures such as garnishing wages or attaching (taking) bank account balances.
If you are pursuing a short sale, make sure you have representation that understands Recourse & Non-Recourse Loans, Judicial & Non-judicial foreclosures, the California anti-deficiency laws (CCP 580b, CCP 580d, CCP 726) and their application to your loan(s), along with the difference between a simple “release of lien” and a “full satisfaction of debt.” It is not good enough that your lender agrees to release its lien in the short sale, you must get a waiver of the deficiency or have language of full satisfaction in your approval letter. Silence in the approval letter on the issue IS NOT AN OPTION.
One of the greatest benefits of a short sale is the ability to negotiate a waiver of deficiencies from ALL your lenders. Homeowners only have one chance to negotiate this issue with their lenders. A short sale provides the best opportunity to address the issue and receive a full waiver of deficiencies. You must have representation during this process that has legal authority to negotiate and explain CALIFORNIA LAW to your lender.
TAX CONSEQUENCES OF A SHORT SALE
Both a short sale and a foreclosure can result in taxation, either in the form of capital gains or as cancellation of debt income. A taxable capital gain can occur where the amount of the short sale (or the fair market value in a foreclosure) exceeds your basis in the property (the purchase price plus any improvements in your home). Additionally, in any situation where the lender is not able to collect the outstanding balance of the mortgage (whether voluntarily or by law), you could have taxable cancellation of debt income. When a lender cancels any portion of recourse debt, they will issue a 1099-C. The IRS views cancelled recourse debt to be INCOME to you (you received money at some point and no longer have the obligation to pay it back). This is known as “Phantom Income” because you don’t actually receive any money at the time you suffer the obligation to pay taxes, but you must report it as ordinary income on your tax return. There are exemptions to taxation resulting from a capital gain or cancellation of debt income, some examples include the principal residence exemption to capital gains, the Mortgage Forgiveness Debt Relief Act of 2007 and IRC 108 insolvency. Contact us for more information on the exemptions to taxable income from a short sale.
CREDIT CONSEQUENCES OF A SHORT SALE
While it is impossible to determine the exact impact of either a foreclosure or short sale on your credit score, it is clear that both cause a substantial negative result. Additionally, late payments in either situation will have a severe effect on your credit score (no matter the final outcome). However, there are a number of reasons why a short sale is preferable to a foreclosure. First, a short sale indicates that you cooperated with your lender in the process and should be looked upon more favorably by future creditors. Credit applications will inquire about whether you have been through a foreclosure and you will need to disclose such information no matter how far in the past the foreclosure occurred (and regardless of whether the foreclosure has dropped off your credit report). Typically, credit applications do not specifically ask about short sales. With regard to a future home loan, many lenders have indicated that you would be eligible for a new loan in as little as 2 years after a short sale, whereas you would be barred from a new loan for 5 – 7 years following a foreclosure.
A short sale is a very difficult real estate transaction which requires a significant amount of paperwork and extensive negotiation with your lender(s). Almost all of the issues raised in a short sale have serious legal and tax consequences. >You only have one chance to make a short sale work. If your agent is not experienced or if he/she makes mistakes, you could end up losing the home to foreclosure and actually be in a worse position than if you had done nothing at all. No matter how much training a traditional real estate agent may have (e.g. Certified Distressed Property Expert, Certified Foreclosure and Short Sale Expert, or any other weekend certification course currently being offered to agents), they simply don’t have the authority to give you legal advice about the short sale contract, the approval letter/settlement agreement, deficiency liabilities, tax implications or the resolution of your breach of contract with the lender. Traditional real estate agents can’t speak to those issues, BUT THOSE ARE THE MOST IMPORTANT ISSUES YOU FACE. The real estate sale is ancillary to the legal settlement of your loan default. How can you feel comfortable in a situation where your selected representative can’t speak about 90% of the transaction?
We know how the lenders work. We have worked with and represented lenders for years. We know how to get short sales approved while looking out for your best interest. We understand the tax and legal implications of a short sale, and, more importantly, we can actually provide you with advice and counsel during your short sale transaction. This is something a traditional real estate agent can’t do. > >Your lender has an attorney, you should too. We feel that anyone wishing to complete a short sale should have the counsel of a real estate attorney coupled with the skill of a real estate broker. That’s why we formed Lawyers Realty Group.
Please take 30 minutes and watch our free webinar, “Foreclosures & Short Sales: Navigating the Minefield.” This webinar gives a quick overview of the issues that come up in California foreclosures & short sales.