If you are wondering, how short sales work, this article will address your concerns. In real estate terms, a short sale occurs when you buy or sell a house for less than the amount owed. Technically speaking, it sounds simple. The lender agrees to sell the property for less than the loan amount, but how does it happen?
After the financial crisis, 2.9 million homes went into foreclosure in 2009.
Before the recession, prices were going up, and it was becoming unaffordable to purchase a house. The unemployment rate was low, and the lenders were busy approving loans at strange terms. Go one year further, and many people were in a situation where the home purchased for $500,000 was worth only $250,000. That’s called being upside down on the mortgage. You are stuck with your loan payments.
You cannot sell the house because it will sell for $250,000 which is not enough to cover your mortgage. As a result, homeowners default on their loan which not only damages the credit score but you cannot buy a house for the next seven years. Another option is a short sale which can save your credit history and financial reputation.
Benefits of a Short Sale
- Buyer can find a property priced at the Fair-Market Value.
- The seller can finally sell the burdensome property without worrying about unaffordable mortgage payments.
- The lender can recoup his loss by selling the house. Foreclosing a home is an expensive option for the lender.
This sounds simple but it is not the reality. Short sales transactions are complicated because you must convince the lender that a short sale will be better than a foreclosure.
How Short Sales Work in Connecticut?
Eligibility Requirements for a Short Sale
As a seller, you must prove that you cannot afford to pay back the mortgage. The lender can deny your application if he finds out that you could have paid the mortgage.
- Send relevant documents including a hardship letter, income statements of past three months, explanation of your monthly expenses.
- Foreclosure letters received by you.
- Explanation of failed attempts to modify the loan.
A short sale cannot be approved unless a buyer is willing to purchase the property. For the same reason, short sale properties are not advertised as ‘short sale homes.’ You will often see them listed as ‘pre-foreclosures’ or written as ‘subject to 3rd party/bank approval’.
If you are a buyer searching for short sale property, consider searching through the ‘pre-foreclosure section’ of real estate websites such as RealtyTrac.
Short Sale Process in Connecticut
For the sake of simplicity, let’s discuss the process from the buyer’s perspective.
If you are interested in purchasing a short sale home, you should search for a few suitable listings. Compare their prices so you can get an idea of the fair market price of the property. You might want to get a broker price opinion or a Comparable Market Analysis by a realtor. Once you confirm the price, you can make an offer to the seller. If you want to take a mortgage, make sure to get approved before sending the offer. Along with the proposal, you must send an earnest deposit showing that you seriously want to purchase the house.
Don’t submit a low-ball offer. It’ll immediately result in rejection. Remember, the lender will review your offer. The bank is already losing money so there will be less room for bargaining.
The Review Period
You wait after sending the offer. The bank can take weeks or months to get back to you. During this time, the lender will review your proposal and will discuss the matter with other stakeholders. After weeks or months, your offer can be rejected for any reason including that:
- You sent a low-ball offer.
- The lender believes that the seller can pay back the mortgage.
- The bank can get more money by using the seller’s private mortgage insurance.
In case of the approval, you must contact other stakeholders/lien holders and get their approval. If there are multiple mortgages on the property, then it can take several months to complete the process.
After your offer is approved, the rest of the process continues as a traditional sale. However, the buyer will pay most of the closing costs. You’ll carry on your inspections and appraisals. In a short sale scenario, the seller is not in a financial position to bear these costs, and most lenders aren’t willing to pay anything extra.
Advantages and disadvantages of short selling a property
The biggest benefit for the seller is that you can avoid foreclosure. You can sell your home with dignity. If the lender gives you written approval, then you can sell the home without worrying about the deficiency judgment.
Another advantage is that you can buy a new home in 2 years. After a foreclosure, most mortgage lenders won’t even consider your application unless seven years have passed.
A short sale will damage your credit history. Both short sale and foreclosure will reduce your score.
The buyer can purchase a property at slightly below the market value. They don’t have to buy a foreclosure home which can be a risky option. The disadvantage is that buyers must absorb most of the closing costs. The biggest problem for the buyer is that it can take a lifetime before the lender approves your offer. The process becomes more complicated if there are multiple lien holders involved. Each lender will drag the process to ensure they bear the minimum loss.
Short sales provide financial relief. However, sellers must remain cautious. If your bank forgives your debt of $50,000; the IRS can send you a tax bill because according to laws, any forgiven debt is considered your income. You can avoid paying this tax if your home was the primary residence or if you were insolvent before the sale. Please consult a tax attorney.