Short Sales: Seldom Easy and Often Not What You Expected
A short sale of your home is sometimes your best alternative. But short sales often do not successfully close, and even when they do you may get a rude surprise.
In a short sale, a house is sold by “shorting”—underpaying—one or more of the lienholders, because the value of the house, and thus the purchase price, is not enough to pay everyone in full. The liens can include not just voluntary ones such as the first and second mortgage, but also judgments, income taxes, support obligations, unpaid utilities, and property taxes. All lienholders must consent and release their liens, or the sale cannot occur. There may or may not be subsequent liability for the homeowners to those lienholders who were not paid in full.
The primary benefit of a short sale is that it avoids a foreclosure on the homeowner’s credit record—that is, it does so IF the short sale is successful. Even so, in the present economic climate there are some indications that there will be less credit record difference between a short sale and a foreclosure. So if you are using this credit record difference as the primary reason try to do a short sale, it may well not be your best course of action.
Short sales have two main problems.
First, they are generally much harder to pull off than expected, taking much longer, and often fail to close, putting the homeowners further behind, with dashed expectations. They usually don’t work because:
- Unhelpful and slow mortgage lenders: To accomplish a short sale, usually the first mortgage holder has to give up some money to a junior lienholder or two. The benefit to the first mortgage holder is that getting a little less out of the sale is better than incurring the delay and cost of foreclosure. But many mortgage companies are not well organized or staffed to handle such negotiations. You are often forced to work through a servicing company, whose financial incentives may well not encourage short sales. So they may drag their heels, and can even sabotage your efforts.
- Since all lienholders must agree, any one of them can kill the deal: Everybody wants their “fair share” of a pie that is too small to make everybody happy. Just when you think you have a deal among the main players , someone else crawls out of the woodwork demanding a payment and jeopardizing the closing. They all have a legal claim against the property, and can delay or undo the whole deal.
- The middlemen have the most to gain: Realtors and others in the real estate sales industry often benefit more from a short sale than you do. Realtors without enough homes to sell have to close sales to survive—even if they are paid less in a short sale than otherwise to help the deal happen. Some “short sale specialists” are indeed expert in this type of transaction, but if it is all that they do then you need to be concerned that they may be like the proverbial “person with a hammer to whom everything looks like a nail.” There are good reasons that unbiased observers—like bankruptcy judges—tend to take a dim view of short sales, seeing them as mostly a way for the middlemen to make money on you.
Second, short sales are dangerous:
- Potential liability from unpaid balances on the junior mortgages and liens: Although you may be told that you will not be liable, you need to be sure that the settlement documents and the applicable law in fact cut off any liability. Also be aware that sometimes in the midst of the negotiations, especially if a junior lienholder is playing tough, and the closing has been delayed for a long time, you may be feel forced to accept some liability in order for the closing to occur.
- Potential tax consequences: This issue deserves a whole blog by itself. The key principle is that debt forgiveness can be treated as income subject to taxation unless you fit within one of the exceptions. Make sure you talk with an appropriate tax specialist about this before investing any time or expectations in the short sale option.