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Chicagoland Residential Realty
Your dedicated broker for buying and selling your home locally, real estate investment and
relocation. With more than 20 years in the business and knowledgeable agents in
all areas of the country, you can feel at ease and confident that CRR will
guide you along every step of buying and selling your home.
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A short sale is a sale of real estate in which the sale proceeds fall short of the balance owed
on the property's loan. It often occurs when a borrower cannot pay the mortgage loan on their
property, but the lender decides that selling the property at a moderate loss is better than
pressing the borrower. Both parties consent to the short sale process, because it allows them
to avoid foreclosure, which involves hefty fees for the bank and poorer credit report outcomes
for the borrowers. This agreement, however, does not necessarily release the borrower from the
obligation to pay the remaining balance of the loan, known as the deficiency.
In a short sale, the bank or mortgage lender agrees to discount a loan balance because of an economic
or financial hardship on the part of the borrower. The home owner/debtor sells the mortgaged property
for less than the outstanding balance of the loan, and turns over the proceeds of the sale to the lender.
Neither side is "doing the other a favor;" a short sale is simply the most economical solution to a
problem. Banks will incur a smaller financial loss than would result from foreclosure or continued
non-payment. Borrowers are able to mitigate damage to their credit history and partially control the
debt. A short sale is typically faster and less expensive than a foreclosure. It does not extinguish
the remaining balance unless settlement is clearly indicated on the acceptance of offer.
Lenders often have loss mitigation departments that evaluate potential short sale transactions. The
majority have pre-determined criteria for such transactions, but they may be open to offers, and their
willingness varies. A bank will typically determine the amount of equity (or lack thereof), by
determining the probable selling price from an appraisal Broker Price Opinion (abbreviated BPO), or
Broker Opinion of Value (abbreviated BOV).
Lenders may accept short sale offers or requests for short sales even if a Notice of Default has not
been issued or recorded with the locality where the property is located. Given the unprecedented and
overwhelming number of losses that mortgage lenders have suffered from mortgage failures that in part
triggered the financial crisis of 2007–2011, they are now more willing to accept short sales than ever
before. For "under-water” borrowers who owe more on their mortgage than their property is worth and are
having trouble selling, this presents an opportunity for them to avoid foreclosure as a result.
Multiple levels of approvals and conditions are very common with short sales. Junior lien-holders - such
as second mortgages, HELOC lenders, and HOA (special assessment liens) - may need to approve the short
sale. Frequent objectors to short sales include tax lien holders (income, estate or corporate franchise
tax - as opposed to real property taxes, which have priority even when unrecorded) and mechanic's lien
holders. It is possible for junior lien holders to prevent the short sale. If the lender required
mortgage insurance on the loan, the insurer will likely also be party to negotiations as they may be
asked to pay out a claim to offset the lender's loss in the short sale. The wide array of parties,
parameters and processes involved in a short sale makes it a relatively complex and highly specialized
type of real estate transaction. Not surprisingly, short sale deals have a high failure rate and often
do not close in time to prevent foreclosure when they are not handled by a knowledgeable and
experienced professional. Short sale negotiators, Realtors who are short sale certified
(a National Association of Realtors designation), loss mitigation specialists, and real estate
lawyers who specialize in short sales are often brought in to handle these deals. Quite often,
the average consumer is not aware that the lien holder pays the Realtor commissions, often exacerbating
the difficulties.
Short sales are different from foreclosures in that a foreclosure is forced by a lender, whereas both
lender and borrower consent to a short sale. However, this consent may be revoked at any time as short
sales are entirely voluntary transactions for both parties. The borrower may decide to remain in the
property and attempt a refinance or modification of their mortgage loan, or may refuse to cooperate
with the lender's demand for financial documentation or a cash contribution, and thereby ensure
foreclosure. Similarly, lenders can refuse to evaluate or approve a short sale offer, generally due
to disapproval of either the buyer's offer amount or high closing costs, which reduces the lender's
net proceeds. All short sale contracts should include a contingency clause specifying that the contract is
contingent upon approval of the seller's lender(s).
In the state of California, short sales can be tricky in that it is important for the party handling the
deal to advise the seller to seek the advice of an attorney and a CPA. There could be tax consequences
if the loan(s) on the property are not purchase money (all the funds needed to purchase the property).
On the other hand, if the loan(s) on the property are purchase money, then the loans are considered
"non-recourse" and the debt is generally forgiven and satisfied at the end of the short sale.
Changing consent can present a perilous situation for potential buyers. It can waste considerable time
and money for a prospective buyer who anticipated a sale. Typically, deposits with the bank will be
refunded but money for paid inspections or other services cannot be.
There are several defenses against this. If the seller has moved out of a property, that is a clue that
they have no intention of staying or negotiating further with the bank. "Bank Approved Short Sales" are
advertised by real estate advertisements, indicating that a real estate broker has verified the selling
bank's position. This still does not guarantee acceptance, and it often does not take junior lien
holders into account, but it is better than situations where the bank holding the mortgage has only been
lightly involved in the borrower's decision.
Short sales are a type of settlement, and they adversely affect a person's credit report. The negative
impact may be less than a foreclosure, but in some cases the effect is the same. Unlike bankruptcy line
items, short sales DO show on a credit report like Experian, TransUnion, or Equifax and remain on your
credit report for 7–10 years. Some people may have some credit available to them within 18 months or so.
Depending upon other credit information, it is possible to obtain another mortgage 1–7 years after a
short sale.
While lenders sometimes forgive the remaining loan balance, other lien-holders likely will not. Further,
it is possible for a lender to omit updating a credit bureau to zero out a mortgage balance after a
short sale. However, willfully misrepresenting information on a credit report can constitute libel in
some jurisdictions, and lenders may be sued in civil court for engaging in this behavior.
Short sale time frames vary from state to state, bank to bank and file to file. Each lender has their
own process for review of a short sale and the amount of documentation that is required. The collection
and review of each file can vary depending on the borrower’s financial situation and supporting
documents the lender requires. Other factors that can significantly affect the approval time frames
include the number of lien holders, the investor that owns the loan, if there is Mortgage Insurance
(MI) on the loan and the amount of the write off.
Short sales are common in standard business transactions in recognition that creditors are not doing
debtors a favor but, rather, engaging in a business transaction when extending credit. When it makes no
business sense nor is economically feasible to retain an asset, businesses default on their debt. It is
common for commercial debt to trade on the secondary market for a small fraction of their face value in
realization of the likelihood of these future defaults. This is known as distressed debt.
CNBC reported that some lenders have been accused of engaging in fraud during the short sale process.
The fraud involves lenders in second position demanding kickbacks in the form of cash payments from the
home buyer or real estate agent, and that are not disclosed anywhere on closing documents or HUD-1
statement. This is in violation of RESPA rules, which require disclosure of such payments.
By nature, all short sales will have a deficiency balance. Laws governing the right of the lender to
pursue a borrower for the deficiency balance vary state to state. States considered recourse states
allow the lender to pursue. Non-recourse states generally prevent this, though some allow pursuit of
deficiency though set forth limits on the amount that can be pursued.
If a lender can legally pursue the deficiency and does not specifically waive its right to pursue the
deficiency, the borrower is at risk for a deficiency judgment. Nevada law potentially grants lenders a
six year window of time to sue for the deficiency based on breach of contract in contract law, not
foreclosure law. Other states may differ.
Borrowers considering a short sale should be aware of this risk and ask every party involved in the
process (Realtor, lender, third party, ...) what can and will be done to protect against a deficiency
judgment. Consult an attorney in the state where the property resides to determine specific risks.
Once a short sale has been completed, a Chapter 7 bankruptcy is a possible remedy that the borrower can
use to remove the risk of the deficiency judgment or to discharge the judgment itself.
See also Mortgage Forgiveness Debt Relief Act of 2007
- U. S. legislation affecting short sales of residential property.
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