What does a short sale look like?*
The discounted payoff from start to finish
Consider an unemployed homeowner who misses a monthly mortgage payment. The homeowner’s lender contacts him as mandated regarding the delinquency and discusses the homeowner’s financial situation. Unable to make payments and desperate to avoid the personal onus of a foreclosure, he solicits the help of a real estate agent.
Before meeting with the homeowner, the agent downloads a “property profile” (title condition) for the home and a printout of recent sales in the surrounding area, the first step in any seller counseling and listing effort. The agent, on review of the reports, comes to a preliminary opinion of the property’s fair market value (FMV) ― a broker price opinion (BPO) ― he will use to set the listing price.
However, he quickly notes the mortgage on the property is an amount that greatly exceeds the property’s value, a negative equity situation. His prospective seller is thus “underwater.”
The meeting between the homeowner and the agent focuses primarily on the homeowner’s inability to clear title of the lender’s trust deed and close escrow on a sale of the property at current prices. The agent advises the homeowner that to avoid a foreclosure by selling the property, the agent must consider negotiating with the lender to accept the net proceeds from a sale of the home in full satisfaction of his mortgage debt ― a discount called a short payoff.
The homeowner decides he would rather sell the home than allow it to go to a foreclosure sale. Either way, the homeowner understands he will net nothing from the sale but will pay nothing to live in the property until the property is sold.
A loan modification is discussed as a method of keeping the homeowner in his home, but the unavailability of a principal reduction rules out that option.
The agent advises the homeowner he will not have to vacate until:
- a shortsale closes, which will take roughly three to six months after a buyer’s purchase offer is submitted to the lender; or
- a foreclosure sale is held, up to ten months after missing his first payment.
The owner and the agent enter into a listing agreement, pricing the property at the BPO set by the agent. With written authority in hand, the agent then contacts the bank on behalf of his seller, and the process for a short sale is begun.
On contacting the lender, the agent is referred to the lender’s loss mitigation specialist, sometimes called a negotiator. In response, the owner is sent a shortsale information packet, requesting he complete it, and then after giving the info to his agent, the agent can deliver the following to the lender:
- Authorization to release information to an agent. This document signed by the homeowner gives his lender permission to deal with and furnish information about the mortgage to the homeowner’s real estate agent. Without this authority, lenders will not communicate with anyone acting on behalf of his homeowner, making the document one of first priority.
- A hardship letter. In order for the lender to determine whether or not the homeowner is financially qualified to make payments on the mortgage, the homeowner prepares a letter detailing his current personal and financial situation. The homeowner explains he was laid off and has not been able to find a new job, or explains his wages have been significantly reduced, or other hardship events. He also states that all savings have been used, and that selling the home is the only option left.
- His most recent pay stubs, bank statements and tax returns. The lender wants to confirm the homeowner is purchasing only necessities in lieu of making mortgage payments (i.e. groceries, car repairs and school supplies). Tax returns are used to verify annual income. Often the lender will also require the owner to fill out a financial statement (equivalent to an application for a loan) to determine whether the owner has other assets available as a source of funds to pay off the mortgage without a discount (i.e. cash on hand, equity in other property, stocks/bonds, etc.).
- Proof of occupancy. The homeowner provides the lender with a utility bill in his name at the property address to prove he occupies the residence and doesn’t rent it to others.
- Listing Agreement. A lisiting agreement fully executed for the expected time of a short sale. The price may be originally decided by the agent's market evaluations, but will later be more formally set when the bank does an appraisal.
- An offer. Often banks will not consider the short sale process until they have an offer in hand. Other banks prefer to set the price before an offer is solicited. This portion will be decided by who the lender is, and who is underwriting the loan. A qualified agent will know how to proceed on this step.
Unless the homeowner is financially unqualified to pay the mortgage and foreclosure on the property is inevitable, a lender may not agree to a discounted payoff of the loan.
After the lender receives and reviews the completed documents from the homeowner, the homeowner will be advised whether the lender will consider a short payoff if he sells the property. If advised he qualifies for a shortsale, the homeowner will be able to obtain a reconveyance of the lender’s trust deed lien and close escrow on a sale. Of course, the agent will need to generate an offer at a price with net sales proceeds the lender will actually accept in full satisfaction of the loan.
Once a purchase offer is received and accepted by the seller, it is submitted to the lender for consideration. An appraisal is then ordered by the lender to determine the FMV (fair market value) of the property ― the acceptable sales price in the eyes of the lender.
If the appraisal is at or below the sales price, the lender will likely indicate the buyer’s offer is sufficient and orally agree to accept the net sales proceeds and reconvey its trust deed on the close of escrow. If the appraised value is greater, the lender will likely indicate the sales price must be set at the appraisal amount before they will consent to a discounted payoff ― the short payoff.
*Taken from first tuesday online's How to facilitate a short sale transaction, a good overview. Note: first tuesday is a California publication but I feel the article covers the fundamentals well enough to serve as a good introduction. Updated with new info by Julie Pierce, 3.8.2014.