What is a short sale?
A short sale is a transaction where a property owner wishes to sell their property wherein the sales proceeds would not pay off the existing loans(s). The owner has no equity. The term “short sale” or “short pay” refers to a process whereby the lender(s) would agree to a reduced payoff for the sale to take place. All the costs of the sale, the escrow/title fees, commissions, property taxes, etc. must be covered and the seller receives nothing (except debt relief).
Why would a lender agree to this?
A lender may agree to a short sale to prevent a foreclosure. Most short sale properties are in “default.” The owner may be behind on their mortgage payments and/or the property taxes and the expenses are adding up. The property is the security for the loan and if the lender takes the property back in a foreclosure, the lender will then own the property and will have to sell it as an REO (real estate owned) on the open market. The lender will incur all the foreclosure costs as well as the selling costs. The lender may also have to pay maintenance costs to make the property safe and marketable. So, if the market value of the property is less than the loan on the property, the lender may cut their losses by agreeing to a short sale.
Sounds simple, what is the catch?
The problem is the lender does not own the property, only the mortgage. They would have to agree to the short sale for the sale to go through. If they do not agree, and if the seller is unwilling or unable to make up the shortages to complete the sale, there is no sale! If you are the buyer in such a transaction, you have just lost out and wasted valuable time. The seller cannot sell if the lender refuses to approve the short sale and the deal dies.
If there is no equity, why would the lender not approve the sale?
Here’s where logic disappears. Many times the department that handles the short sale negotiations, sometimes called the “workout” department in loan servicing, is not interested in saving the bank money. They are only interested in recovering the debt. They will sometimes hold out if they think the owner has assets, even if it would cost the bank more to foreclose and it means losing you as a buyer. They will want to see the owner’s financial statements. If there are any assets available (savings, stocks, bonds, boats, cars, etc.) they want the owner to deplete those assets first before the bank agrees to a short sale.
The bank’s decision process takes time, and meanwhile, if you are trying to buy the property, you wait and wait and wait. Even if the odds are good that the sale will be allowed, it doesn’t mean the bank will agree to your price. The bank may counter your offer with a price they can live with.
Here’s another wrinkle. There is a chance that the seller’s loan was insured by a mortgage insurance company. If so, the bank may not have the final say. The MI (mortgage insurance) company will have its own set of guidelines and requirements since they will have to reimburse the lender for all or a portion of any loss. They may have the final authority to approve a short sale.
But I really want that home!
How can you increase your chance of success? The first step is to work with a REALTOR who understands the process. This is so very important. Some real estate brokers have had no experience representing either buyers or sellers in a short sale process. That could cause you serious heartburn.
The Short Sale Addendum to the Oregon purchase contract includes an escape clause. If the lender does not give a favorable response within a reasonable time period, you can terminate the transaction, get your deposit back, and look for another property.
If you are getting a loan, get approved before making an offer. The lender who is considering approving the short sale will require a pre-approval letter from your lender at the time you submit your offer.
Remember, nothing happens evenings and weekends (banks and MI companies are closed).
While you are patiently waiting for an answer from the bank/MI company, the property usually remains on the market and the listing broker must present all offers to the seller. Keep in mind that your offer could be “bumped” at any time. It’s in the seller’s and their lender’s best interest to get as much for the property as possible, so the lender will be reviewing all offers received on the property. There is no such thing as “first come, first served” in short sale transactions!
Short sales are a unique transaction and have their pros and cons. However, they do occur frequently. If you are willing to be patient, it can happen and you may purchase a property at a great value.