The following information is for general reference only and is not to be construed as tax or legal advice. Consult your income tax preparer and/or attorney for specific details regarding your individual situation.
SHORT SALE FUNDAMENTALS & Frequently Asked Questions about Short Sales
What is a short sale?
(Also called "Short Pay" or "Pay Off") When a lender allows the sale of a home and the net proceeds to the lender at close of escrow are not enough to cover the seller's mortgage obligations it is consider a 'short sale'. The lender also agrees to forgive the difference to avoid foreclosure.The seller must be in a financial hardship for the lender to approve the short sale.
What would qualify as a financial hardship?
Unemployment, reduced income, divorce, separation, medical bills, too much debt, death of a spouse or family member, mortgage payment increase, business failure, job relocation, illness, damage to property, military service, incarceration to name a few.
Why would a lender approve a short sale?
If a lender rejects a short sale, they will wait several months to get the property back through foreclosure, then take several more months to get it sold. During these many months, the lender has received no payments and the market has likely dropped further. A 2002 study by Craig Focardi of the Tower Group estimated that the entire cost of a foreclosure was $58,759 and took 18 months. Other factors that can influence a bank’s decision include the liability risk it assumes by owning the property after foreclosure, the money tied up during the holding period for a foreclosure and REO resale, additional costs associated with an REO such as attorneys’ fees, as well as the additional reserves it will need if REO's rise in the bank’s portfolio. An REO stands for Real Estate Owned and means the bank owns the property.
What does it cost me (Seller) to do a short sale?
It shouldn't cost anything, but some lenders might ask the seller to contribute to the sale. You will have to have your individual situation assessed to know for sure.
How long does it take to complete a short sale?
From the time a short sale package and a valid offer have been submitted to the lender, it can take as little as two weeks or as long as 60 days to receive an approval of a short sale from a lender. That’s why it’s critical to price and market aggressively to receive that first offer and get the short sale process started as soon as possible. Buyers should be made aware of the timeline before placing an offer.
What is the likelihood of getting a short sale done?
Depending on your situation, we are experiencing a 90% chance at the moment. There are varying factors to the approval of a short sale.
What is a non-judicial foreclosure?
A non-judicial foreclosure is when a Trustee Sale happens at the courthouse steps. Due to the One-Action rule in California there cannot be a deficiency judgment imposed on you from either the first or second loan after the Trustee Sale. California Foreclosure Law is non-judicial.
What is a judicial foreclosure?
The judicial process of foreclosure, which involves filing a lawsuit to obtain a court order to foreclose, is used when no power of sale is present in the mortgage or deed of trust. Generally, after the court declares a foreclosure, your home will be auctioned off to the highest bidder.
Why is it better to do a short sale instead of a foreclosure?
Foreclosure is not a good option since it can adversely affect your credit record for up to 10 years. Typically on a short sale, the loan will show up as “paid" on your credit report; however there can be a notation that says "settled for less than originally owed.“ This is much more favorable than having a foreclosure on your credit report. Better credit means you will be able to purchase a home a lot sooner - usually in 18 months.
How long after receiving a Notice of Default does the Trustee's Sale happen?
A Trustee's Sale date is set 3 months after the date the Notice of Default (NOD) is recorded. 20 days prior to the sale date, the owner will receive a Notice of Sale (NOS). In times where there are a lot of these happening, the time periods get longer, sometimes a lot longer.
When should I move out?
While it is easier for us to sell your home when it is vacant, we recommend you take advantage of as much free housing as is legally available to you. You are actually helping your lender by not moving out because a vacant home is subject to vandalism which further increases the lender's loss. We will let you know when the short sale transaction will close and will give you notice when to move out. If you move out too soon, and the home gets foreclosed, you will not be able to take advantage of the money (cash for keys) your lender may offer you to move out quickly.
Is my personal property insured?
If your homeowner’s insurance premiums are paid by your lender thru an ‘escrow’ or ‘impound’ account, check with your insurance company at the annual renewal to ensure your lender has not converted the policy to a ‘fire’ policy which would not cover your personal belongings.
What is a non-recourse loan?
Any loan that is purchase-money (has not been refinanced) on an owner-occupied 1-4 unit dwelling. This definition applies to both 1st Trust Deeds and 2nd (junior) Trust Deeds. A non-recourse loan is very favorable because the lender's only recourse, in case of default, is the property itself. The lender cannot pursue the borrower for a deficiency judgment or attempt to collect money or any other asset from the borrower.
What is a recourse loan?
Any loan that is not non-recourse, including all refinanced loans, equity lines of credit and loans used to purchase rental property. This includes rate & terms refinances where no cash was taken out. In case of default, the lender is not limited to taking the property back and the borrower may be personally liable on the debt. In California, any recourse loan that is foreclosed on non-judicially through a Trustee Sale, becomes non-recourse.
What is a "Deficiency Judgment"?
It is a judgment lien against a debtor, defendant or borrower whose foreclosure sale did not produce sufficient funds to pay the mortgage in full. This option may or may not be available to the lender, depending on whether they have made a recourse or non-recourse loan. (see above) Lenders may not seek a deficiency judgment if (1) the foreclosure is non-judicial or if (2) foreclosure or short sale is on a purchase money obligation (non-recourse).
What if all of the loans on my property are non-recourse?
There are no costs to you to short sell your home. If there is a Home Owners Association you should keep that current. You are not required to pay property taxes, commissions, closing costs, repairs or the mortgage. The debt will be permanently eliminated at close of escrow without declaring bankruptcy. No IRS ordinary income tax is due on the forgiven debt. However there may be state tax due. A successful short sale will keep foreclosure off your credit. Homeowners with all non-recourse loans and insolvency should do a short sale without exception.
What if there is only one loan on my property and that loan is recourse?
You still will not have to pay anything to short sell your home. You will not have to pay property taxes, commissions, closing costs, repairs or the mortgage. The debt will be permanently eliminated upon close of escrow without declaring bankruptcy. You may need to pay capital gain tax if there is a low cost basis and insufficient exemptions. You will owe IRS ordinary income tax on the forgiven debt unless you are 'insolvent' or declare bankruptcy because the federal Mortgage Debt Relief Act of 2007 does not apply to a recourse loan. If a short sale is successful, you'll keep foreclosure off your credit. You should consider a short sale if your income tax preparer says you are 'insolvent' per the IRS definition.
What if there is more than one loan on my property and the junior loan is recourse?
If your 1st loan forecloses, the entire principal balance of your 2nd loan converts to unsecured debt, just like credit card debt. The debt from the recourse 2nd loan is NOT eliminated! You will still owe the full amount of the 2nd loan even though you no longer own the home. This secondary lender can, and probably will, pursue aggressive collection action against you including a deficiency judgment in court with subsequent liens and wage garnishment. You may need to pay capital gain tax if there is a low cost basis and insufficient exemptions. If, in the face of a deficiency judgment for the full amount of the second loan, you would realistically declare bankruptcy, you should do this prior to the foreclosure to get a couple more months of rent-free living and increase the likelihood of short sale success. A short sale is an excellent test to find out if bankruptcy is needed or not. If the secondary loan approves the short sale, no bankruptcy is needed, but you will have to pay IRS ordinary income tax on the forgiven debt unless your income tax preparer says you are 'insolvent' because the federal Mortgage Debt Relief Act of 2007 does not apply to a recourse loan. If the secondary loan rejects the short sale, you should declare bankruptcy and live rent-free longer. All loans included in the bankruptcy convert to the favorable non-recourse status. If you're facing a large capital gain, bankruptcy may be an excellent way to increase short sale likelihood which would minimize the capital gain tax.
Can you help me if the Trustee Sale (aka 'foreclosure') has already been scheduled?
If your lender has already recorded a Notice of Trustee Sale and scheduled the actual foreclosure auction there is not enough time to find a high-price buyer for your home and negotiate with your lender. You need to list with us within two (2) months of the Notice of Default being recorded in order to allow for enough time to market your home and obtain an offer. If you've already missed 3-4 payments, it's time to start the short sale process.
What geographies do you cover?
We can help homeowners in Alameda, Contra Costa, Solano, and Napa Counties in California.
WHAT'S REQUIRED OF YOU
What do I need to do?
You’ll need to write a short hardship letter, complete a monthly budget, and fill out the Realtor mandated disclosure forms. We’ll need your permission to communicate with your lenders. We'll need 2 recent months bank statements and pay stubs plus last years IRS form 1040 from your income tax return. You'll need to allow buyers to enter your home, sometimes on short notice. Your home does not need to be cleaned and organized to show. When your lender's appraiser visits, you'll want your home to be as unattractive as possible. After a short sale approval, you'll need to complete the escrow process.
Do I have to have a sign in my yard?
No. We prefer you do though, as it will increase the likelihood of a sale.
Do I have to have a lockbox on my door?
No. We prefer you do though, as it will make showings faster and more convenient for today's demanding buyers.
What if I have a purchase-money, owner-occupant loan, but I never moved in?
If they do not find out that you never moved in your lender will probably treat the debt as non-recourse. You can assume that the IRS will consider the debt as recourse and you will have to pay ordinary income tax on the forgiven debt unless you're 'insolvent'.
Can I have a relative or friend purchase my short sale home and rent it back to me so I don't have to move?
Possibly, but it is risky., Some lenders require the buyer and seller to sign a document at short sale closing affirming that the sale is an arms-length transaction where the buyer and seller do not know each other.
Is it legal for me to collect rent from a tenant if I'm not making the mortgage payment?
Yes, if you've owned the home for more than 12 months. If you've owned the home for less than 12 months, collecting rent without paying the underlying mortgage is rent-skimming, a misdemeanor.
A FRESH START
Will I have trouble finding a rental with a short sale or foreclosure on my credit?
You shouldn’t. In today's market, owners that refuse to rent to tenants with a foreclosure or short sale on their credit will have great difficulty keeping their homes occupied.
What tax liabilities will a seller have as a result of a short sale?
One often overlooked aspect of short sales is that a seller must count any amount forgiven by the lender as income and pay taxes on that income, even if no actual money was received. The IRS requires lenders to submit a Form 1099 stating the forgiven amount. Sellers who meet the Internal Revenue Service definition of insolvency (either in bankruptcy or with debts exceeding assets) will not have to pay taxes on the forgiven amount. The Mortgage Forgiveness Debt Relief Act of 2007, signed by the President on December 20, 2007 (H.R. 3648) states that any primary residence with a non-recourse type loan, sold during Jan. 1, 2007 and Dec. 31, 2010 that resulted in an indebtedness shall not be subject to Federal income taxes on the forgiven amount. However, State income taxes currently still apply to any indebtedness unless you're insolvent. Consult a tax specialist.
What are the effects on my credit?
A foreclosure or deed-in-lieu of foreclosure will affect your credit the same way. Your credit score will usually decrease 250 to 280 points and show "foreclosure" on your credit report. A short sale is less damaging by showing "settlement of a debt" on your credit report and will usually result in a loss of 80 to 100 points. These point amounts may vary due to other credit issues in your report.
How long until I can purchase another home?
The waiting period after a foreclosure or deed-in-lieu of foreclosure is the same at about 36 months, until a lender will offer any kind of interest rate that makes sense. The waiting period after a short sale is much shorter at about 18 months at a good interest rate.
If you would like to get started or have some more questions, please give us a call or email, for a FREE, no obligation consultation to know all your options before it is too late.