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11 Myths About Short Sales 



Myth #1.   A short sale can be as
"bad" to your credit as a foreclosure.

FALSE! The effect that a short sale can have on your credit score can vary considerably depending on your starting credit score; amount of payments missed; and how the short sale is reported by the bank to the credit agencies. But a short sale is always considered better than a foreclosure on your record.

A short sale shows future lenders that you acted in a "responsible" manner and "sold" your home for as much as the current market would allow and "settled" your debt rather than just walking away.

The lender makes the final decision of how to report your short sale on your credit report. The lender either reports it as "paid in full" (the best way to report) or "paid as settled." If it is reported as "paid as settled" the effect on your credit score can range from 'no effect' … 'very slightly' … or many points deducted. There is no hard and fast answer to that as different credit agencies have different regulations.

If you allow your home to be foreclosed, then it is reported as "foreclosed" which is a VERY negative statement on a credit report. It shows both a lack of responsibility and your score will take a huge drop.

Your account has not been "settled." There are laws in some states (such as California) that protect a homeowner from a deficiency judgment on a "home purchase money loan" after foreclosure. But, there is nothing to protect you from a future lawsuit brought about by the bank and investors for any second mortgage or equity line that you may have on the property. This MUST be negotiated with them in advance of foreclosure; short sale; or deed in lieu (where you give the banker your deed and walk away), which is also very bad on your credit report A homeowner who loses a home because of a foreclosure is ineligible for a loan backed by Fannie Mae for 5 years, however if the homeowner sells their home by means of a short sale they will be eligible for such a loan in only 2 years. An investor who allows his property to foreclose will have to wait 7 years for an investment mortgage but if he had his realtor successfully negotiate a short sale then he could acquire a new investment mortgage in only 2 years also.

A foreclosure will lower your credit score between 250-400 points and will affect your credit for 3 years or more. Often times with a short sale it is only the late payments that will show and after the sale it will be reported as either paid or settled and may not lower it at all or may only lower it as little as 50 points. The affect of a short sale on your credit may only last for 12-18 months.

A foreclosure will remain as a public record on your credit history for 10 years or more but a short sale is NOT reported on your credit history, and that makes a BIG difference!


Myth #2.  You must be behind
in your payments to do a short sale.

FALSE! This may have been true in the past, but today the key phrase is hardship. Certainly being behind in payments is the most common type of hardship. But hardship could also be caused by job loss, death in the family, divorce, adjustable rate mortgage hike, loss of property value (especially in places like California).

Here is important information to know if your mortgage is "upside down":

Waiting Periods to Buy After Foreclosure

* Buying After a Foreclosure

The waiting period is 5 years up to 7 years.

* Buying After a Foreclosure with Extenuating Circumstances

The waiting period is 3 years up to 7 years.

* Buying After a Deed-in-Lieu of Foreclosure

The waiting period is 4 years up to 7 years.

* Buying After a Deed-in-Lieu of Foreclosure with Extenuating Circumstances

The waiting period is 2 years up to 7 years.

* Buying After a Short Sale

The waiting period may be as short as 2 years! However, if a seller does not have a 60-day late pay, that seller may immediately buy another home. It's a reason to stay current on your payments while the home is on the market as a short sale.


Myth# 3.  The lender will never
approve a short sale if you owe too much or
your home has decreased in value too much.

FALSE! Lenders have a formula that they base their decision on. This formula starts with an appraisal of the house for its current market value (BPO). Once this is determined, lenders then compare the amount of money which they would receive from the proceeds of a short sale to the money that they would receive from the house sold at auction as a foreclosed property. And remember, the lenders have to assume the high costs of foreclosing and maintaining the home. Usually, short sales are considerably less expensive for lenders.


Myth #4.  You will never be released
from the debt of your second mortgage in
a short sale if it is an "equity line of credit"
and they will "come after you for it later."

FALSE! A mortgage short sale beats foreclosure both from the homeowner's viewpoint and from the perspective of a mortgage lender. If you cannot pay on a mortgage, the bank would rather get partial payment of the mortgage, and not get your house back.

They can in fact deal with getting your house back because they are set up for it. But when they get a house back they must add it to their already bulging inventory. They must insure it. They have to fix it up. They have to put it on the market and sell it. They are selling into the same terrible market that you are facing

But, a mortgage short sale helps the lender get partial payment on your mortgage and avoids getting your house.

Let's recap what a short sale is. It's when you sell your house for less than the mortgage. The lender approves the sale and the lender collects the proceeds from the buyer, whatever is left at closing after paying closing costs and real estate broker commissions and so forth. The mortgage lender releases the mortgage so the transaction can close.

The mortgage company now has a financial loss. They may pursue you for that financial loss, which they can sometimes do through a civil court proceeding. Sometimes they cannot pursue you at all because state law prevents them from doing so. And sometimes you can negotiate with the home loan lender before the short sale goes through, and they will agree in writing not to come after you for their financial losses.

But be that as it may, the question we are addressing is how you can do a short sale if you have a second mortgage and not just a first mortgage?

What people forget is that even if they do a sale of their house, the loans go with the house so if they deed their house to someone else, the loans stay in place. A sale of a house does not affect the loans on that house.

The reason a short sale works is that the lender agrees to release their claim on the house at the closing table. So the new buyer can get the house free from your crushing mortgage. But if you have two mortgages the short sale is much more complicated. The buyer will want to be free of both your first and second mortgage. That makes it twice as complicated.

Because if the first mortgage lender agrees to a short sale, that isn't enough. The house will be sold and still have a second mortgage on it.

A foreclosure sale, on the other hand, wipes out all the loans on the property. The lender who forecloses may get the property back through their "credit bid". That is, if nobody bids higher than the balance on the loan including all delinquent payments and fees, the lender gets the house back. If someone bids higher, they will get the house. Either way, all the junior loans are extinguished in the foreclosure sale. A foreclosure sale results in a transfer of title through a trustee's deed or sheriff's deed. A trustee's deed or sheriff's deed transfers title to either the lender, or the high bidder if there is a party that outbids the lender. And with that foreclosure deed, the junior loans are wiped out. So junior loans are not an issue in a foreclosure and in fact a lot of houses go through foreclosure in order to wipe out the junior loans.

But what if you want to avoid foreclosure through a short sale process, in order to help your credit and the lender" And what if you have junior loans"

There is a way to do it. Actually three ways.

Is the second mortgage a piggyback loan? Sometimes the lenders who made the first mortgage also made the second. Maybe they can allocate the short sale proceeds to release both loans.

Or, you may be able to buy out the second. They are in a position where they will get nothing at this point. If you can offer them a nickel on the dollar of debt, or a dime, maybe they will take it. That assumes you have a bit of cash. But it may not take much. After all they are already prepared to be wiped out. If you do a deal like this, make sure you get the arrangement in writing including how they will report to the credit bureaus (you want to avoid foreclosure appearing there) and also that they will not go after you any more -- this is full payment of the second mortgage and forever wipes clean that debt.

And there is a third option for most folks who do not have cash to buy out the second mortgage.

This third option is doing a deal with the second mortgage holder: They will release the second mortgage in order to allow the short sale to go through. In return, you will sign a note for a percentage of that loan.

Such a note is a personal loan, an unsecured loan, and would be dischargable in bankruptcy. But if you can manage the payments this is a good outcome for all concerned compared to the alternatives. Remember that if they get wiped out, the second mortgage holder can still come after you in civil court but by signing a note you make it cheaper for them and either way, something is better than nothing.

These three options are the best ones to consider if you want to do a short sale and avoid foreclosure, but have a second mortgage on the property. I would always recommend you consult a good lawyer or CPA to help you.


Myth #5.  A deed in lieu
of foreclosure has the same impact
on your credit score as a foreclosure.

FALSE! There are two reasons, one direct and other indirect, that a deed in lieu of foreclosure are better on homeowners' credit reports than having a full foreclosure. The deed in lieu is only one step better than the foreclosure, so it won't do much to improve the credit score. All it will do is prevent the worst of the damage that foreclosure can cause.

The direct reason that deed in lieu can have a positive effect on homeowner' credit is that it shows the owners did something to save the home before the lawsuit had proceeded to the end and the property was sold at a public auction. The bank accepts the deed in lieu as payment in full of the defaulted mortgage, but they can only do this if the homeowners offer the deed in the first place. So even offering to give the property back to the bank shows that the owners took a proactive step in solving the problem.

This shows other lenders that, although the homeowners fell into a hardship and defaulted on their mortgage, they recognized they could not keep the house and offered to give the collateral back to the bank without a fight or going through a lengthy legal process.

Obviously, this is only convenient to the mortgage company, but it indicates to other creditors that the owners are more likely to take responsibility when they fall behind on a loan.

The second reason that the deed in lieu is better for the credit report is that it can end the foreclosure process several months before it would be completed otherwise.

When the bank accepts the house back, the mortgage is satisfied in full and the owners no longer have legal title to the house. This means that they are no longer responsible for paying the mortgage.

How this helps the homeowners is that they will end the foreclosure process before experiencing a few more late mortgage payments. The fewer late payments they show on their credit report, the better it will look. Numerous missed payments leading up to a full foreclosure is obviously the worst possible scenario. The deed in lieu ends this trend by giving the house back to the bank before it is auctioned off, and so ends the string of late mortgage payments.

The deed in lieu is not the best option to save a house from foreclosure, and doesn't do a whole lot to improve the homeowners' credit. It's main benefit is that it is a last-ditch effort when no other options are available, and it can help prevent some of the worst damage of the foreclosure appearing on the credit report. If selling or a short sale can be done, they can often present much better results for the long-term financial health of the homeowners than a deed in lieu of foreclosure.


Myth #6. If you do a short sale then
you may be liable for extra taxes that
you would NOT be liable for if you let them foreclose or do a deed in lieu of foreclosure.
(This myth is a big one
and commonly misunderstood.)

False! The same possible tax consequences exist even if you let them foreclose or do a deed in lieu of foreclosure. The only thing that matters to Uncle Sam and IRS is whether or not the amount of the unpaid debt qualifies for relief under the IRS guidelines.

According to the IRS section 61(a)(12), lenders are required to report the unpaid debt amount on a form 1099-c to the IRS. You would need to discuss with your tax professional whether in your particular financial situation you qualify for tax forgiveness guidelines from the IRS. Many people do in fact qualify for debt tax forgiveness under the "Mortgage forgiveness act of 2008" for acquisition money consisting of purchase money, home building money and improvement money.

Often times debt tax can also be forgiven under the rules of insolvency, used often when the homeowner does not qualify under the acquisition money rule but when the homeowner's liabilities exceed the fair market value of the home. Only a tax professional can give you accurate and up-to-date advice on these matters. Everyone's situation is different and the information presented here is merely a very general guide.

Do not use this page as personal tax advice. Always consult with a tax professional and/or attorney specializing in these matters before you make final decisions. Meanwhile some good reading on the subject can be found at:

http://taxesabout.com/od/income/ss/mortgage_cancel _5.html

Two very useful publications for mortgage debt tax relief qualifications can be ordered for free by phone from the IRS that better explain these tax rules at:
1-800-829-3676

Mortgage relief for acquisition debt tax: IRS publication form 982 Insolvency and the laws about tax relief from it: IRS Publication form 908



Myth #7.  The lenders don't let you short
sale your house if you owe a lot of money.

False! At the beginning of the real estate crisis, that used to be the norm. However, now, lenders usually base their decisions on comparing the current market value of the home to the price that it can be sold for as a short sale -- rather than by selling it at auction or as a real estate owned property (REO).

They take into account the many costs involved in foreclosing and holding onto the home. It costs the lenders a lot of money to foreclose on a home and maintain it once it is a vacant bank owned property. These costs can be avoided if they accept a reasonable purchase offer as a short sale. So, in general, the homes that are sold as short sales do obtain a slightly higher price than those sold as foreclosures.


Myth #8.  Everyone who owes
too much on their home can
just "dump it" and do a short sale.

False! A realtor who is a short sale expert will do an evaluation to see if you qualify for a short sale. The major factor that qualifies a person for a short sale is "financial hardship," meaning that it has become difficult for the homeowner to continue to pay the mortgage.


Myth #9.  "I probably won't
qualify for a short sale because I did
not qualify for a loan modification either."

False! Short sales and loan modifications are very separate from each other.

Whether you should favor a loan modification over a short sale depends, in part, on the following:

**Your financial situation

**The willingness of the bank

**Your desire to keep your home

It becomes further complicated if the bank refuses to consider the present market value of your home. If you truly want to stay in your home, regardless of its value, then a loan modification might be the better option.

Terms of a Loan Modification

The goal of a loan modification is to reduce a homeowner's mortgage payment and make that payment affordable. This is accomplished by implementing one or more of the following:

**Lowering the interest rate

**Extending the term of the loan

**Adding unpaid interest to the principal balance

**Reducing the principal balance

The Office of the Controller of the Currency (OCC), which regulates national banks, released a report in October of 2009 that showed less than 10% of all loan modifications reduced the principal balance. Perhaps more disturbing is the news that more than 50% of the loan modifications granted in the first quarter of 2008 were delinquent again by the first quarter of 2009.

Loan Modifications May Result in an Increased Payment

This may sound bizarre to you and contrary to how a loan modification is supposed to work, but not every bank will offer a loan modification that lowers a homeowner's mortgage payment. Some banks will offer a loan modification that increases the payment.

Bank use ratios, often capping out at 38% of gross monthly income, to determine a new mortgage payment. If the financial statement warrants, the bank may ask for higher payment.

Temporary Loan Modifications

Be aware that some banks are offering a temporary loan modification. This means a bank will not agree to make a permanent loan modification but may instead offer the following conditions:

**The principal balance remains the same.

**Homeowners are asked to make a new reduced payment.

**The term for the new payment is set for 3 to 6 months.

The implication is if the homeowner makes the new payments on time during the temporary loan modification term limit, the bank may grant a permanent loan modification.

However, at the end of the term, the bank is also free to say: "Thank you, very much, for giving us some money, but your loan is now in default." And the bank could proceed to foreclose! This is a "tricky maneuver" by the bank.

Banks Do Not Process Short Sales Simultaneously With a Loan Modification

Most banks will not open two files at the same time. You will need to decide in advance whether you want to pursue a loan modification or a short sale. You should chase one or the other.

A bank will close out a pending short sale transaction if the homeowner later decides to try for a loan modification. The length of time to process a short sale versus a loan modification is about the same. Some loan modifications take 3 to 6 months to conclude.

It is unfair to a buyer who has submitted a good faith offer on a short sale and agreed to wait for short sale approval to discover that the sellers have had second thoughts and now want to do a loan modification in the middle of the short sale.

Why Might a Short Sale Be Preferred Over a Loan Modification?

Homeowners who would prefer to get out from underwater may prefer to do a short sale in-lieu-of a loan modification. A short sale means the bank will accept a reduced payoff and release the loan. If your home is worth dramatically less than the amount owed, it might make more sense to do a short sale and be relieved of the burdened debt.

Here are other factors consider:

After 2 to 3 years of maintaining credit, if prices remain stable, homeowners may qualify to buy another home with a mortgage and a payment that is affordable.

Both a loan modification and a short sale may affect credit. But either solution is generally better than a foreclosure.


Myth #10.  "If I am planning on filing
a bankruptcy because of my other
debts or have recently had a bankruptcy
then there would be no point in selling
my house as a short sale since my
credit scores will be hit so hard anyway."

False! Many bankruptcy lawyers will ask the judge to allow the home to be sold as a short sale as part of the bankruptcy because they know that the homeowner still should try to avoid having a "foreclosure" placed on their credit history for up to 10 years. They also can often get the 2nd equity line along with other liens dismissed in bankruptcy court.

Most lenders actually have a bankruptcy department that can be negotiated with. There is a split of opinion among attorneys on whether it is best to do the bankruptcy before or after the short sale and there is some logic supporting each point of view.

The answer to that question is very individual and should be discussed with your own attorney. However, it is agreed that the foreclosure on your credit record for many years can and should be avoided if possible. A short sale is a good, no cost to you way of doing so.


#11 is not a 'myth' but just a
'bad idea': "I can do my own short sale."

Although, it is theoretically possible to conduct your own short sale (ie: Do-It-Yourself), it is strongly recommend that you do not.

Here are two main reasons why agents encourage sellers to do a short sale:

#1 In most situations, it costs you nothing. Agents get paid by the lender to do a short sale.

#2 In most situations, agents don't get paid if the seller loses the home to the bank by going all the way through foreclosure. So your agent (me!) will do everything possible to assure you of a successful short sale.


Benefits of a Short Sale

What do you get out of a short sale?

  • Retain some dignity in knowing that you sold your home.
  • You won't suffer the social stigma of the "F" word: foreclosure.
  • No mortgage payments to make, unless you choose to make them.
  • You can meet the new owners.
  • You will be eligible, under Fannie Mae guidelines, to buy another home in 2 years instead of 5 to 7 years.

If your credit report does not reflect a 60-day+ late pay, under Fannie Mae guidelines, you will be eligible to buy another home immediately.

"No one will work harder or more professionally than I will to earn your smile and handshake for a job well done."

"Please call or email for a free, confidential and no-obligation consultation."

 

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MARS DISCLAIMER: The above brokerage and agent/s assumes no responsibility nor guarantees the accuracy of this information and is not engaged in the practice of law nor gives legal advice. It is strongly recommended that you seek appropriate professional counsel regarding your rights as a homeowner. The above brokerage and agent/s is not associated with the government, and our service is not approved by the government or your lender. Even if you accept this offer and use our service, your lender may not agree to change your loan.