People struggle to keep up with their mortgage payments for many reasons. Some households see their incomes drop when someone loses a job or is slated to work fewer hours.
For others, the debt becomes insurmountable in the face of new expenses, like unexpected medical bills, student loans, or spiraling credit card balances. Others find they can’t keep up when interest rates rise on an adjustable rate mortgage.
Regardless of the reason, people who find they can no longer make their current mortgage payment can explore options such as a loan modification or if they are willing to move, sell the home they can no longer make the payment on. But what happens if the outstanding mortgage amount exceeds the current market value of the home?
A Short sale could be one option worth exploring.
This is where a property is sold for less than the owner owes on the mortgage. If the borrower is able to negotiate a short sale, the lender agrees to take the money from the sale—even though it is lower than the balance of the loan—instead of foreclosing on the home. Foreclosure involves the lender suing to take possession of the home if the borrower doesn’t make their mortgage payments.
Short sales were pretty common a decade ago, when the housing crisis and Great Recession left many homeowners owing more on their home loans than the value of their homes.
In 2009, short sales represented 18% of single-family home sales. Since then, the percentage of short sales has dropped significantly, as housing values and employment have risen. In 2018, short sales represented just 1% of home sales.
There is also an option referred to as a deed-in-lieu of foreclosure and this is basically where the homeowner surrenders the property (deed) to the lender and avoids foreclosure proceedings.
But whether you’re selling or buying a home, it’s still important to understand the opportunities and challenges posed by a short sale.
How Does a Short Sale Work?
For a short sale to be on the table, it’s not enough to be behind on your mortgage payments. Rather, this option is only explored if the remaining balance on a home loan is greater than the property can fetch in the market.
Otherwise, there’s no point to a short sale because the borrower can repay the full amount of the mortgage by selling the home. The borrower also typically has to write a hardship letter and prove with documentation that he or she is facing a long-term financial challenge.
To start the short sale process, the homeowner needs to approach the lender to figure out the schedule for the sale. If the lender is already on the path to foreclosure, a short sale will typically need to happen rather quickly.
Next, the seller (and an agent, if there is one) will review the number of liens (such as a home equity line of credit or second mortgage) against the property. Having several of these can sometimes get in the way of a short sale, since all lenders must approve the short sale. In many cases, the RE agent may order a Preliminary Title Report which will show all recorded liens against the property
Finally, the owner will put the home up for sale based on the local real estate market and select among competing offers. The lender has to approve the short sale and agree to accept the sale price in lieu of full payment of the loan. It is good to note that some lenders have a short sale preapproval process and or allow for an offer on the house to be submitted with the initial short sale request paperwork.
Buyers looking for short sales can search online listings , such as MLS.com, or find real estate agents that have experience with short sales. Besides the term “short sale,” buyers can look for terms like “subject to bank approval” or “third-party review required.”
Pros and Cons of a Short Sale
There are both advantages and risks to taking part in a short sale. Here are some of the factors to consider.
Benefits of a Short Sale
For the seller, a successful short sale can help avoid foreclosure and the challenges that come with it. Depending upon the loan program applied for after such a credit event, someone with a foreclosure on their record generally needs to wait seven years before qualifying for a new mortgage. A short seller applying for a new conventional conforming loan , on the other hand, may only need to wait four years or just two under certain extenuating circumstances.
The lender must determine the cause and significance of the derogatory information, verify that sufficient time has elapsed since the date of the last derogatory information, and confirm that the borrower has re-established acceptable credit history.
Short sellers may want to make sure that the information on their credit report is accurate and get written confirmation of the short sale from their lender. This letter along with a copy of the final settlement statement from the short sale escrow closing could be helpful if lenders have trouble distinguishing their short sale from foreclosure or have questions regarding amounts or dates.
For the buyer, a short sale can provide an opportunity to get a home at a fair market price or lower, although prices have gone up “>gone up in recent years. Because the lender has an incentive to sell the property quickly and prevent further costs, the lender might offer attractive financing to the buyer, such as a lower interest rate, credit toward closing costs or other favorable terms.
The seller, too, is often motivated to get the short sale done expediently. Buying a short sale property can help avoid the risks associated with purchasing a foreclosed home, which can sometimes include disgruntled homeowners purposefully damaging the property or having to buy a property without getting the chance to view it.
Drawbacks of a Short Sale
Although short sales can have advantages compared to foreclosures, most sellers may still want to look at a short sale as a last resort. Short sales still have a significant negative effect on credit, affecting the seller’s ability to take out a home loan or other forms of debt in the short term.
A short sale can be risky for the buyer, as well. One thing to consider is that homes sales are usually closed “as is.” If pre close property inspections did not catch a needed repair, hat can lead to unpleasant surprises that require spending extra time and money on repairs and/or renovations.
Short sales can also take a lot of time: Short sales can take from 90 to120 days or more compared to typical home sales, which usually close in 30 to 45 days. It can take a while for lenders to review a buyers short sale application for approval especially if multiple lien holders are involved.
The time spent may also end up being fruitless for various reasons, such as banks can end up deciding not to accept the offer and request a higher price. The sale can also fall apart if the seller declines to pay certain fees they are responsible for in order for the bank to approve the transaction.
Yet another consideration is that the buyer may be responsible for additional fees compared with a typical sale. For example, the buyer may have to pay for inspections and if the seller employed a short sale negotiator to help reach a deal with the lender, the buyer may pay this charge which can run 2.5% of the purchase price.
Adjusting Your Mortgage? Consider Refinancing
Whether you seek a short sale or a more traditional option, buying a house was just the first step. As the year’s pass, you may find the idea of refinancing your mortgage appealing. For some borrowers, it can mean a more favorable interest rate or loan terms.
If you decide that refinancing is right for you, consider SoFi, where eligible members receive benefits such as 50% off your loan processing fee. The online application process is easy and borrowers can choose between fixed and adjustable-rate mortgages at different term options.
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