Short Sale vs. Foreclosure: A Short Sale Always Wins

by Christopher Reale on October 4, 2011

We are again honored to have Christopher Reale, Director of Short Sale Operations at Lepizzera and Laprocina Title and Escrow Services, as today’s guest blogger. He is an expert on the short sale process and will share his knowledge with us on a regular basis. – The KCM Crew

Today’s ever changing real estate industry has brought upon some very challenging questions from our clients. We as counselors, want to put forth the best, non-emotional advice that we can, in hopes that we can help our clients and their families navigate the rough waters of the short sale process.

The most prevalent question and one that continues to permeate the industry is:

“Why should a seller go through the short sale process rather than letting their house be foreclosed upon?”

While we cannot speak to every client circumstance, we can say one thing with complete conviction. In almost all instances in which a potential seller is contemplating whether they should short sell their house or let it go through the foreclosure process, a short sale is the better option. The following are examples to consider:

Example A- Short Sale

Mr. Smith owns a home in which he has a mortgage balance of $220,000 and a current market value of $150,000. Mr. Smith has elected to short sell his property. His Realtor successfully obtains a buyer who puts forth an offer price of $120,000 (80% current market value according to Realty Trac Foreclosure Report 5/26/2011). After reviewing the buyers offer and the financial hardship information from Mr. Smith, Mr Smith’s bank agrees to accept the short payoff of $120,000 which would leave a deficiency balance of $100,000.

The transaction closes and is final. Mr. Smith then pulls his credit report 30 days after the transaction takes place. On the report he notices that the mortgage trade line states “Mortgage debt was settled for less than full” and the balance on the mortgage is $0. Mr. Smith is now on the road to financial recovery.

Example B- Foreclosure

For the ease of illustration we will use the same value and mortgage debt amounts as in Example A. However, Mr. Smith has elected to forgo the short sale process and let the bank foreclose on the property. The bank holding his mortgage facilitates the proper legal procedures to foreclose on the property, all of which are costly. Mr. Smith is notified and his property foreclosed upon of which is taken back by the bank to sell as an REO.

Six months later, the bank finally sells Mr. Smith’s home only they sell it for $90,000 (60% of current market value according to Realty Trac Foreclosure report dated 5/26/2011). Remember, as a short sale, the home would have sold for $120,000 keeping the deficiency to $100,000. In addition to the deficiency now being $130,000, the bank has elected to add on legal costs of $15,000 and asset preservation costs of another $5000 for a total deficiency liability of $150,000. Mr. Smith pulls his credit report 30 days after being notified that the bank has sold his property and of his liability.

On the report he notices that the mortgage trade line states “Foreclosure” and the balance is $150,000. Because of Mr Smith’s choice to choose foreclosure vs. short sale his road to financial recovery has taken a major detour. He not only has a foreclosure on his credit report but now has a much larger deficiency balance in which the bank, in most cases, will report on his credit report as a balance owed.

The Best Option is Clear

While the financial and credit advantages are clear when choosing a short sale over a foreclosure, other advantages are sometimes overlooked. The most important of all of them is maintaining the seller’s dignity and peace of mind. We have heard too many stories of families having to leave their homes because of a Sheriff’s order or some other type of legal action. The short sale process alleviates this negative social impact. The process puts the control back in the seller’s hands so that they can get back on the road to financial recovery and start providing for their families. In the battle of the two evils, a short sale always wins!!!

Tagged as: Short Sales & Foreclosures

About The Author

Christopher Reale is the Director of Short Sale Operations at Lepizzera and Laprocina Title and Escrow Services. He has over a decade of experience in the mortgage industry. Lepizzera and Laprocina has negotiated over 1000 successful short sales and has currently over 400 short sales being negotiated.

http://www.shortsalesraleigh.com Ken Smith

It’s also important to note that in a short sale, the homeowner is protected by the Mortgage Debt and Forgiveness Act of 2007 (HR3648), which removes the IRS tax liability on the deficiency. In a foreclosure, the homeowner is not protected by this law. So add $0 in tax liabililty on a short sale and up to 50% tax liability on a foreclosure for the deficiency (in the above example, $130,000, so a potential 1099 of up to $65,000). I’m not a tax accountant or attorney, so every situation may be different. But in my opinion, in today’s market a short sale is the only reasonable solution for distressed homeowners.
http://realestatewrecks.com Theresa Bond

As I have written before, the short sale route goes down much easier than foreclosure with the banks. I actually had a real estate agent advise that we walk away from our house and let the bank have it. Had we done that, we would not have been able to finance another home within a year.
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http://www.guidingyouhometeam.com Susan Krueger

I’m writing to correct Ken Smith’s comment with regard to the Mortgage Debt Forgiveness Act of 2007 which clearly states that one exception is where the home was a person’s principal residence and it also does apply to foreclosure. Therefore, if one’s principal residence is foreclosed upon, there is no tax liability for the remaining amount. Also, it’s important to educate the readers that one extremely important facet of a short sale is to have an attorney review the letter of offer approval as some include language that the “short” part of the underlying note is forgiven but others either don’t mention it which means the short sale homeowner is on the hook for the balance whether they realize it until later or not, or the language is deliberately ambiguous, leaving the bank free to pursue the difference later. The other exception is for a non-recourse loan wherein the lender’s only option in a default is to foreclose upon the property. In Washington State, we are a non-judicial foreclosure state so that’s another important fact to mention when considering foreclosure vs. default. It’s also important to determine whether there’s one note (loan) or a first and a second against the property. There are lots of variables and the short sale therefore does NOT always win.
Michele Nixon

Logical and intellectual people know that a short sale is absolutely the best option. That being said, most banks won’t approve a short sale or make the homeowner almost destitute before they’ll approve it. We had a vice-president of Bank of America tell a room full of Realtors, quite frankly, that the bank gets more money as a result of the foreclosure. So, they have no interest in what’s best for the consumer. Sorry to be so pessimistic but, if banks believed short sales were better, the process would be much smoother and we’d have more approvals. We get it. They don’t.

KAT

I must have been in that same room. You’re absolutely 100% right. It’s a shame…..no easy way out no matter how you slice it.

http://www.grandrapidsshortsaleagents.com/ Grand Rapids Short Sale Agents

This was a very well written article. Rarely do I post real estate stuff on my personal Facebook page but this just answers the question so well . . .Why should I do a Grand Rapids Short Sale instead of letting it go to foreclosure.

One caveat is I have told people to just let it go when the price of the house goes so low that I can’t help them. This breaks my heart because I want to help. But when I sell a house for $15,000, I end up having to go to close with money because it doesn’t cover the fees I have expended. I absolutely hate it when I have to do that!!!!
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Banker

Option #3 the borrower realizes that they signed a contract and are financial responsible for that debt, and do whatever it takes to make their mortgage payment and keep up with their financial obligation that they agreed on.

Your short sale properties are partially the reason the neighborhood is going down and values keep decreasing. Wake up….. All for a 3% commission. Shame on you, for encouraging people to do this.

I understand that some need this relief, because of happenings in their lives. Once you give this option and borrower commits, the very next step is foreclosure even though that person may have been able to pull it together. But because they started the short sale process and now are late on their payments they have no where to go. Thank you Mr./Mrs. Agent.

Your two options the banks lose. ok, fair….. But who is going to cover that difference in the end. I guarantee you that the bank won’t. In the end. Banks are failing because of this. Our economy is going down the tube and YOU are encouraging it by telling people their option is to short their home or just give it back to the bank.

Start trying to rebuild the situation instead of make it worse.

Things you can do:
1) Hold seminars to keep borrowers in homes
2) Check all their financial & loan options, before even considering a short sale
3) Visit bank websites for ideas on how to keep their mortgage.
(But all this won’t make you a penny, so of course you’ll go straight to the short sale/ foreclosure avenue for 3% commission)
http://www.VAhomeSellers.com Norberto Vignoli

As a Realtor, over the past 29 years I’ve been involved in many Short Sales in Virginia, and I agree with Mr. Reale that a Short Sale is much preferable than a foreclosure. What I would like to know is the following: As far as the credit reporting agencies and the mortgage lenders are concerned, for how long will the credit of the Short Sale sellers will remain impacted by the deficiency of a “Mortgage debt was settled for less than full” showing in their credit report?
http://www.ETSells.com Eric Thomas

Thanks Christopher for this blog post. and thanks Ken for the first post. i was going to ask about the deficiency balance. A question, is (HR3648) an option or guarantee?
Jimmy Gillerlain

I am a broker in the Southern Virgina market. In our firm we spend many hours with the client reviewing all of the options before recommending that they choose the short sale route. I resent any banker saying that all we are concerned within a 3 percent commission. In our firm we a establishing long term client relationships not just going for a quick paycheck
http://www.mike-scalise.com Mike Scalise

As a mortgage lender it is very important to understand that a seller that does a short sale is not necessarily on the road to financial recovery. I agree their scores will be alot better but if they try to go and purchase a new home with a mortgage – they will also have to wait 3 full years just like a foreclosure because current mortgage laws -lets pray these change quickly- consider a short sale the same as a foreclosure and the same lending rules apply. I would still agree that a Short Sale is always a better option…. but sellers do need to know everything upfront.
http://thewestchesterview.com Ruthmarie Hicks

To Banker:
If you bankers played fair and square perhaps loan modifications would be possible. But too many banks create a bait and switch which forces sellers into foreclosure. They go through the loan modification process and submit and resubmit and resubmit all the stuff you clowns “lost.” This gives the banks time to proceed ahead with the foreclosure. You are blaming agents for this mess. That’s HILARIOUS. Looking at the banks website for “solutions”? That’s just too funny for words. Look in the mirror Mr. Banker…YOU are the problem.
http://thewestchesterview.com Ruthmarie Hicks

Btw, I don’t do short sales – so I have no stake in this game….But suggesting that the banks are trying to help people is just too funny for words.
Agent

To address Banker, I have never known an agent who advised any client to short sale or foreclose. If some do FIND A NEW AGENT. The truth is that that decision comes from the bank and can only be approved by the bank. I have many letters to prove that. When an individual falls behind to a large extent the bank makes the decision to give them an opportunity to do a short sale. In most cases and at the banks option, they can decide at any time to proceed with foreclosure. I am sorry but I have no sympathy for the banks. It is true that people have made a comment and must adhere to their responsibility, but some of these loans are crazy. I will admit that one must have a better understanding of what they are getting obligated to, however that does not change the fact that a con is a con and in many cases individuals are overwhelmed when committing. Education and experience is expected on the side of the bank loan officers who wrote the loans in the first place. The banks are not failing because of the foreclosures. They are failing because they made bad business decisions and they lost. It is appropriate that they go down with the ship.
http://www.tntdavis.com Tammy Davis

I am a Realtor, and the majority of my listings are short sales. I would like to respond directly to “Banker”.
First this article is addressing when given the option of Foreclosure or Short Sale…short sale is the correct choice. It is not..to bail or not to bail.
Helping buyers and sellers buy and sell real estate is how I earn my living. But I also help a handful of borrowers who are struggling with their payments with the loan modification process…for FREE, Pro Bono, no charge, zip, nada! It is a daunting process, that intimidates most people…fortunately with my escrow background I know the lender language and their demands.
I have two borrowers now that are…three years behind in their mortgage payments. The bank has not even started the foreclosure process. They seem to be lost in the system and we have just started the loan modification process. I have another family that bought their home in 1988..they have an interest rate adjustment coming that will increase their payment from 1750.00 a month to over $3,000.00. They have had a reduction in work and pay…they also have a daughter on her second tour of Afganistan. We have been working on the modification since April 2011. We just received a denial from the lender…why? Because the lender has decided that the house will never go up to the value, for them to recoup their loan. So now we are pushed to do a short sale. And if we sell it…the bank will be taking a loss of approx. 300k. These are people that want to stay in their home! They love their home, have taken care of it, never missed a payment and raised their family in it.
Every short sale I have listed in sold…the sellers wanted to stay in the property, but the denial of a loan modification forced them to short sale.
That…Mr. Banker is what causes the economy to tumble and neighborhoods to deteriorate. The foreclosed house that sits there for years, only to be vandelized and be an eyesore on the community. Not the seller who continues to have pride of ownship until the keys are delivered to the new buyer.
http://www.MortgageMediationGroup.com Kevin Hardin

I think this blog post needs a major edit. It needs a big disclaimer to “Consult an attorney in your state to determine deficiency laws in your specific state prior to any foreclosure prevention strategy”.

This post has no value in AZ where there is very specific protections from deficiency in a foreclosure and NO protection from deficiency in a short sale. Our law firm takes in a half dozen clients a week now who are being sued by their lender POST SHORT SALE. What good does it do if a lender misreports an account as zero post short sale, if there is a valid deficiency that the lender or third party collection company can pursue up to the limits of the statute of limitations?

Again, these generalized blog posts are very dangerous and it is very important that Realtors understand to get their potential client, prior to listing, in front of good legal counsel to understand their legal rights and obligations prior to default, short sale, etc.

http://www.steveharney.com Steve Harney

@Kevin,

Great points! I just want everyone to understand that the blog was written by Christopher Reale, Director of Short Sale Operations at Lepizzera and Laprocina Title and Escrow Services. Lepppizzera and Laprocina is a law firm. Christopher was addressing a small portion of the short sale equation (credit reporting). He was not discussing deficiency judgements which do differ from state to state.

http://www.MortgageMediationGroup.com Kevin Hardin

@Steve,

That said, I would encourage you to edit or insert a disclaimer into the post itself as the call of the question was ““Why should a seller go through the short sale process rather than letting their house be foreclosed upon?”” It is give very little service to credit reporting.

It is your blog, but this post is getting shared out at an alarming or “good” rate and it will not have your explanation attached.
http://www.JohnlScott.com/AllenW Workman R.E. Broker

Oh Mr. Banker, if only I were in it for the money which I am not when it comes to selling Short Sales homes. True, I do receive a commission but the intent is to help a homeowner out of a difficult situation that they find themselves in due to a serious hardship; job loss, illness, etc. In far too many instances, the homeowners are distressed over their inability to stay current on their mortgage payments. They would actually prefer to stay in their homes rather than move to an apartment or with other family members. So, though I receive a commission for my services, given the fact that I deal with anguished homeowners in the worst situation of ther lives, I do it for them not me.
http://www.steveharney.com Steve Harney

@ Kevin,

Thank you very much for your concern. We feel strongly that the post, as it stands, is fine. We represent Mr. Real as a short sale specialist and his blog represents his experiences as a professional counselor working for a law firm helping people through the process.

He explains that he “cannot speak to every client circumstance” and then sets forth two examples on one aspect of the process “to consider”. Obviously, no one could address every aspect of the short sale process completely in a blog post – as that would require a book.

Thank you again for your points and your concern.
MARILYNN S KORNFELD

Appreciate the explanation ringing loud & clear. Agreed short sales is a far better choice than foreclosure.
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http://www.lexingtonkentuckyhomesforsale.com Jason Preece

Great blog post. Brad Hacker from Benchmark Mortgage in Lexington KY told me to check it out and I’m glad I did. I do a lot of short sales here in Lexington KY and often lately getting the HAFA program approved and the seller is walking away with a $3,000 check.
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Faith

90% of home loans are underwritten or guaranteed by Freddie, Fannie or Ginny. Therefore, the banks and mortgages companies don’t have much incentive to accept a short sale if they are going to be made whole on the loan from Freddie, Fannie or Ginny. Even if the bank does accept a short sale, Freddie, Fannie or Ginny will still come after you for the difference……Trust me, I know someone who has already gone through this. Their mortgage loan was guaranteed by Ginny Mae. They received a letter from USDA/HUD wanting payment for the balance of the loan.
http://www.AndyNewmanHomes.com Andy Newman

It’s my understanding that if the homeowner is successful in his short sale and his lender(s) sign a release for the mortgage AND the note, the homeowner has no further liability in the matter. If the release is for the mortgage only or the note only, then the homeowner is open to future judgements on the deficiency.
Great discussion string!
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Esther Bowen

Hi:
This is great…………
Thanks.
Esther
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