There were more than 5.5 million foreclosures after the recession of 2008. After the recession, we saw many homeowners turning to the bank for a short sale. The situation is improving. Last year, more than 675,000 homeowners in the US, gained equity in their homes which is a sign of improvement.
Although short sales are beneficial for all parties, they are still considered a puzzle. It is essential to know a few things before you get involved in the process.
Effect on Your Credit History
A short sale is different from foreclosure. The lender forgives the pending loan, and your debts are considered paid. Because of the same reason, a short sale drops your credit score by 150-200 points whereas a foreclosure will reduce the numbers by 250-300 points.
In the case of a foreclosure, you cannot buy a house before seven years. However, a short sale with extenuating circumstances allows you to purchase a new property in the next two years.
Extended Closing Period
The short sale process varies from lender to lender. Some banks might approve the sale in 3 weeks while other institutions might take months. It can take anywhere from 4 to 9 months to complete the short transaction. Both the buyer and the seller should know this.
Eligibility Criteria
Lenders won’t approve a short sale unless it is the last option they have. If you want to qualify for a short sale:
- You need to have an upside-down mortgage.
- Provide a hardship letter that explains you cannot pay back your loan because of job loss, divorce, or sudden illness.
- Give a reason (such as the increasing rates of an ARM) why you cannot afford to pay the mortgage.
- Show that the loan modification program didn’t work out for you.
Most sellers want to avoid foreclosure, and that’s why they are seeking a short sale of their house. You do not have to be in a foreclosure, but most banks don’t even consider your application unless you are several months behind on payments.
Legal Paperwork is Involved
Bank, lien holder, mortgage insurance company, seller, and buyer are involved in the process. A short sale must be approved by various parties before it can home. Therefore, we see that a lot of paperwork is required. Lenders appreciate receiving organized documents. You can contact an attorney, an agent or a real estate solutions company for help. A real estate solutions company can buy your house as-is while helping you with negotiations and legal paperwork.
Avoid Bankruptcy
Filing bankruptcy might be a suitable option if you are facing financial problems. Bankruptcy immediately stops foreclosure, but it also prevents you from seeking a short sale. The bankruptcy court will decide how you will pay back the loan which is the opposite of a short sale. If you want to qualify for a short sale, avoid bankruptcy at all costs. Contact us or a real estate attorney to decide which option is best for you.
The Lender Benefits from a Short Sale
Too many foreclosures can limit the lending ability of a financial institution. Furthermore, it is expensive to foreclose a house. Most of the time, the banks lose up to 25% of the home value in the process. After the foreclosure, the house becomes a liability as it does not produce any income for the bank. Plus, the bank has to pay the maintenance costs. For this reason, most banks will approve a short sale. Banks will get back most of their money. Buyers will get the home at a reasonable price, and the seller is free from the obligation of paying the loan.
Check for Other Liens
There are other parties involved like the 2nd or the 3rd lien holder. Mortgage insurance company is also involved. When a buyer defaults, the junior lien holders suffer the most loss. Before you buy a short-sale home, explore the history. Make sure the sale is approved by all parties.
Beware of the Deficiency Judgment
Even after the short sale, the lender can harass you to pay back the loan. They can file a deficiency judgment against you. It happens when the lender does not entirely approve the short sale. Along with the approval document, the lender must submit a legal note stating that your loan has been paid in full. The short sale process remains incomplete without the acceptance letter.
Short Sale Tax Implications
IRS considers forgiven debt as your income. After a successful short sale, if the lender cancels your debt of $75,000 then this $75k will be treated as your income, and you must pay income tax on the said amount. There are ways to avoid this situation. For example, if the home you sold was a primary residence or you couldn’t pay back the loan because of financial hardship, then you might not have to pay all or a portion of tax payments. Please consult your tax attorney for more information.
Buyers Beware
Investing in a short sale house can provide a good return. However, make sure to inspect the house in detail. Most of the times, short sale properties require significant repairs. Hire a property inspector and take a detailed look at the property. Take notes of all the required repairs and make sure to consider the cost of repairs before buying a short sale home.
