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Short Sales

SHORT SALES

THE HOWS AND WHYS

 

What is a Short Sale?

Short sales are a way for a homeowner who cannot afford to pay his mortgage and is under threat of imminent default to avoid foreclosure. In a short sale the lender agrees to the sale of the property to a third party for less than the entire mortgage balance. As a general rule, the seller will need to be in default on their mortgage and must have stopped making mortgage payments, before a lender will consider a short sale.

Example

If the borrower has a $500,000 mortgage on property that has a real value of $250,000 and is under threat of foreclosure, the lender will probably agree to a short sale in the $250,000 range (or lower) instead of foreclosure.

The Process

The property owner will ordinarily list the property for sale for far less than the amount of the mortgage and hope that a buyer will make an offer. From the buyer’s standpoint, just because a property is listed with short sale terms does not mean the lender will accept the offer.  Short sale acceptance is at the discretion of the lender who holds the mortgage on the property. Lender acceptance may depend on a variety of factors, such as the amount of the down payment, creditworthiness and overall market conditions. In Florida, mortgage lenders are accustomed to short sales and usually have a fixed policy regarding these types of property sales.

The reason the lender will agree to a short sale is because after foreclosure, in our example above, it will not realize more than $250,000 from the sale of the property in any event- that is the value of the property. The lender will also have to pay broker’s commissions, carrying costs, taxes, insurance costs etc. if they are forced to foreclose-this is an incentive for the lender to accept less than true market value for the property.

Problems you should be aware of:

1. Deficiency Judgments

At the end of the short sale approval process, the bank will submit a written proposal to the borrower/property owner setting out the terms and conditions for the short sale acceptance. Unless waived in writing, the lender will still have the right after the short sale to sue for a “deficiency judgment”; that is, for the difference between the amount of the original mortgage and the short sale price. In the example above, if the short sale price is $200,000 and the mortgage balance was $500,000, the lender can then sue for $300,000. The lender can sue for a deficiency years after the short sale is over. A deficiency judgment can often be pursued even when the property is returned to the lender through a deed in lieu of foreclosure unless the bank agrees in advance to cancel the debt.

2.  Tax Liability

After the short sale, unless the property is the borrower’s primary residence, the lender will ordinarily report the cancelled amount to the IRS as taxable 1099 income. In the example above, for non-homestead property, the borrower would be subject to taxes on $250,000 of forgiveness of debt income. IRS will not be as forgiving as the mortgage lender and will take action to collect the tax. Worse yet, the tax liability for forgiveness of debt income is not dischargeable in bankruptcy (a deficiency judgment in the foreclosure, on the other hand, can be discharged in bankruptcy).

In any short sale or deed in lieu of foreclosure transaction, the borrowers must have competent legal advice to protect their interests.  For a free consultation on all of these issues, contact Hoffman, Larin and Agnetti, PA. We have offices in Dade, Broward and Monroe counties.