Short Sale Tip #1
The Hardship
Like a loan modification, a hardship must be taking place in order for your lender or servicer to grant or accept a short sale. It’s important to remember a lender “usually” will not even discuss a short sale until the homeowner has fallen behind on payments right around 90 days. The lender must be convinced taking a smaller loss now is better than a bigger loss later. To make that case, start with a letter written by the seller giving an overview of the seller’s desperate situation.
The lender must recognize the seller’s inability to pay the loan, immediately and in the future, and that the situation is irreversible. The seller should supply as much evidence and documentation as possible, such as divorce papers, evidence of job loss, delinquent accounts, utility shutoff notices, car repossession paperwork, last two years tax returns, recent pay stubs and recent bank statements. If the lender thinks the seller has money or assets stashed away, it will never go along with a short sale.
Your submission package should include:
1. Hardship Letter – explaining the circumstances that make it impossible for them to pay the full amount of the loan. The seller needs to be able to show true financial hardship. Someone with the assets or the income to pay is unlikely to be considered. You can view example hardship letters here.
2. Proof of employment or unemployment – W-2 forms from employers (or a letter explaining the seller is unemployed).
3. Proof of income – bank statements, two years of tax returns, and other financial documents outlining income and debt obligations. Most lenders will ask if you have an access to a retirement fund, investment fund, 401’s, stocks, and how much is accessible and why if these funds are not accessible has to be provided in a written statement.
4. Comparative Market Analysis or CMA Broker Price Opinion or BPO (Mini appraisal) The bank will need comps or a broker’s price opinion showing the current estimated of value of your home. Be very thorough with your Analysis with Closed and then Active listings. Closed comparable are of course what they are looking for above all, but if you cannot find any sold in the last 3 months in the exact same complex or street/block due to the sluggish market, be very detailed with your analysis and calculate by square footage, age, size, views, frontage and upgrades, amenities et…
5. Listing Agreement or Proof of Listing – The Listing Agreement is a Short Sale: any offer is Contingent Upon the Lender’s Buyer’s Approval. The Listing has to be signed and sealed and promoted on the MLS prior to sending your package for short sale consideration to the Loss Mitigation Specialist. Often the commission will have a maximum stated by the Lender/Investor.
Tip: In preparing the package, be careful about discrepancies between the seller’s income and the income used to obtain the loan. A big gap may indicate mortgage fraud, unless employment circumstances have drastically changed
Other Items you want to include in your short sale package.
Cover Letter
Authorization to Release Information
2 months bank statements
Supporting Hardship Info – HOA liens, medical/disability statements etc.
Repair Estimate for the property
Contract
Net Sheet
First mortgage holder may ask for a payoff amount from the 2nd
Second mortgage holder may ask for a payoff amount from the 1st
Lender may ask for an Initial Title Report
FHA and VA may have their own forms and special requirements as well
Ultimately, a short sale can be understood as a negotiation to recognize a changed environment from that when the loan was originally signed. Any offer to buy the property must be evaluated by the lender, who is in a favorable position of being able to determine whether to accept such an agreement. Because of this, it’s crucially important that you present your property in the best possible light, just as you would in selling your home directly. Never accept the least common denominator as the only solution to the issue – by working hard as an advocate for your own cause, you can make a solid case to the lender that a short sale might be in both parties’ best interest.
Negotiating Deficiency is Key when atempting a short sale: With a short sale, the lender has three possible ways to handle the deficiency balance, which is the portion of the mortgage debt not covered by the sale of the home.
First, the lender can attempt to collect the deficiency balance from the seller after the property has closed.
Second, the lender may require the seller to sign an unsecured promissory note for the deficiency balance as a condition of agreeing to the short sale. If the new note is for less than the balance of the original debt, the difference would be considered canceled, or forgiven, debt.
Third, the lender may agree to cancel the entire deficiency balance.
You must negotiate for the release of both the property lien and the underlying personal debt secured by the note. If you fail to do this, the lender may not forgive the personal debt and it will become a collection.
In short sales, just as in any negotiation, it’s important to put yourself in the lender’s position and try to understand their approach. The decision they make is based upon the opportunity cost of holding onto the property after foreclosure and then determining what to do with the asset – if they believe that properties value are artificially low, then it will make it more difficult to clear a short sale. Because of this, it’s important to present the property as a potential investment to other buyers, putting your value proposition at the center to generate the highest possible offer; the higher the offer, the more likely your bank will be open to accepting a short sale.
Short sale Tip #2
Get organized:
Buyers must be organized and present a clean offer, make sure that you have your financial statement or lender letter ready to submit with the offer. Also be prepared to buy a property that is being sold as is without any credits for repairs or fix-up. The bank or lender won’t approve the Short Sale if it is too far below the market value of the house and they will do their own BPO (Broker Price Opinion) and/or appraisal before accepting or countering an offer. Remember that a bank may not accept even a full-price offer because they don’t educate the seller on how to price the property or what it is that they are looking to net.
Since Short sale properties are most likely being sold as is, the buyers should make the offer contingent on the findings of a home inspection. Sellers are required to disclose material defects that they are aware of, but by this point the owners have stopped making their payments and have no incentive to do anything to the house because they’ll make nothing on the sale.
Short Sale Tip #3
The Success of The Short Sale Lies With a Great Real Estate Agent
Some real estate agents are well versed in and only work with Short Sales. They learn the ins and out of working with the lenders loss mitigation departments, and getting approval from them. The process is similar with every transaction, but each of the lenders have different reps behind the desks making decisions. Even more complicated is that each bank has different departments. For a Short Sale the two departments that you would be working with the most would be the legal department and the loss mitigation department for the short sale process and these two departments seemingly don’t work in conjuction with each other.
From the sellers standpoint, you need a real estate agent who specializes in Short Sales to make sure you are as timely and effective as possible with the lender. Also you would need a real estate agent that is a very good negotiator and one that could guide you through the process with the documents required to submit to the lender along with both the listing contract and the purchase contract.
From the buyers standpoint, you need an agent who specializes in Short Sales to guide you to the better deals and to make sense of the long process of acceptance. Also just as the seller needs an agent that is a very good negotiator, so would you. For buyers, short sale transactions can be a roller coaster ride. They need to have patience because the process is so long. Even when the homeowner and the buyer settle on a sales price, the lender still has to approve it and the process could take anywhere from 30-90 days, sometimes longer if there is a second lien holder involved.
Short Sale Affect on Credit
The affect of a short sale on a seller’s credit report is much less damaging than foreclosure or deed-in-lieu. The ding on credit will show up as a pre-foreclosure in redemption status, which will result in a loss of 80 to 100 points. This means a short sale with a previous FICO of 680 will see it fall to 580 to 600.
Waiting Period Before Buying Another Home
The good news for short sale sellers is the wait is much shorter before buying another home when compared to foreclosure or deed-in-lieu. You can buy again in about 18 months at a good interest rate.
Short Sale / Foreclosure Deficiency Judgments
The bad news is a seller could be subject to a deficiency judgment for the difference between the loan amount and the amount paid. In California, purchase money loans are not subject to deficiency judgments; however, hard money loans, equity loans and refinances are. Other states have laws regarding personal guarantees, which could also result in a deficiency judgment if the home owner is personally liable for loan repayment.
The lender has sole discretion whether to pursue a deficiency judgment in those instances when the judgment is permitted. To determine whether a pending foreclosure or short sale is subject to a deficiency judgment, talk to a real estate lawyer. If you’re a seller trying to decide whether to let a home go through foreclosure versus attempting a short sale, salvaging your credit is the main advantage to doing a short sale. But seek legal and tax advice before making that decision.
IRS Tax Laws on Short Sales
This article aims to provide guidance on the most recent changes in the IRS tax structure as its affects property short sales.
In order to avoid home foreclosures, which can be complicated and lengthy, banks often engage in term negotiations with borrowers. A real estate short sale occurs when the mortgage lender (the “mortgagees”) agrees to alter the original terms of the loan by lowering the outstanding balance of the debt.
Such forgiveness often takes place in cases of a financial deficiency, or when shifts in the real estate market result in a negative net equity on the part of the borrower (the “mortgagor”). In particular, under a short sale the home owner is allowed to sell their home for less than their outstanding debt and give the proceeds to the lender in return for forgiveness of the loan.
Generally, a loan officer at the bank will negotiate new loan terms upon the request of the lender. While the bank is not obligated to negotiate with the lender, there are several advantages for both parties when the loan would otherwise result in a foreclosure. If you are considering a short sale, however, there are a number of tax implications to factor into your decision. Where the parties are able to reach a short sale agreement, the forgiven portion of the loan may still be taxed as income on the part of the borrower.
In general, the IRS tax code specifies that a borrower must file a 1099C Cancellation of Debt form when the forgiven amount equals or exceeds $600. Traditionally, the IRS has treated this amount as fully taxable income on the part of the borrower. The 2007 Mortgage Forgiveness Debt Relief Act (Public Law 110-142, HR 3648), however, amended the tax laws to allow borrowers negotiating the loan on their primary residence to avoid having to declare this debt as income (limited to debts of $2 million or less.) Importantly, this forgiveness stipulation does not apply to rental properties or other non-primary residences that a lender may hold.
Previously, only a personal bankruptcy filing could prevent the forgiven debt from being treated as taxable income. With the Debt Relief Act effectively provides an amendment to the original 1986 Internal Revenue Code which allows selective exclusion of forgiven debt from taxable gross income.
Under the conditions of Form 1099-C, there are special circumstances that may affect whether canceled debt is treated as taxable income. In cases where the borrower declares bankruptcy, the debts are fully discharged although the declaration may have broader adverse effects in terms of other financial and tax obligations. Additionally, under certain circumstances the debt is not taxable if a professional accountant has determined that the value of the debt is greater than the appraised, fair market value of the asset in question. Farm debt is also treated differently according to the law, which is signified by direct farm debt for those who earn over half their gross income directly from farming.
If you are seeking to execute a short sale on a residence other than your primary home, but which served as a secondary residence for you personally during the last five years, the Relief Act also provides a graduated scale of gross income reductions. Depending on the time you physically lived in the home in question, you may be able to deduct a portion of the forgiven amount.
It is wise to consult with an Attorney or Real Estate Agent who is familiar with Short Sale negotiation and has significant experience working with lenders. Keep in mind that Attorney’s fees or Realtor fees come out of the lender’s net proceeds, therefore, you should not have to pay out of your own pocket for an Attorney or Realtor to assist you with the transaction.