Short Sales Explained
Short Sales Explained
Can Short Sales or Pre-Foreclosures Work in Springfield and the surrounding area?
In Springfield and surrounding locations, short sales (also known as pre-foreclosures) may be the answer to helping homeowners in distress with their mortgage. Right now, an estimated 1.15 million homeowners are at some stage of the foreclosure process, and 5.6 million are 30+ days late on their payments. This translates into almost 6.76 million homeowners being in some sort of financial distress.
There are countless hardships that can turn home ownership into a burden. The loss of a job, medical bills, or an unexpected hike in monthly payments can suddenly make an affordable mortgage payment unaffordable.
I am very concerned about the mortgage crisis not only for its effect on the real estate industry but more importantly for its effect on homeowners. The most important thing to understand is that not only are the homeowners with sub-prime loans effected, today we are seeing more and more defaults by homeowners with “regular” conventional loans.
Read below or click on the headings for a explanation of different aspects of short sales, pre-foreclosures and an explanation of short sales vs. foreclosures.
The Mortgage Crisis: How Big is the Problem Anyway?
Today, more homeowners than imagined are in some sort of financial distress. Historically, at any given time, there are always a certain percentage of homeowners that can’t pay their mortgage. In a healthy market, typically 1 to 3% of properties fall into this category. Today, this number is frighteningly higher; as many as 1 out of 25 homes are at some stage of the foreclosure process.
Not only have foreclosures been going up exponentially since 2005, so are defaults or missed payments before the foreclosure process begins. It is important to note that as part of this debacle, mortgages actually were being written and closed where homeowners could not even make the first payment. Nationally, 1% of all mortgages (ARMs, non-ARMs, sub-prime and conventional) are in foreclosure and 6.35% are not making payments.
In a HousingWire article released September 2, 2008, there is grave concern since Option ARM loans will soon reset. An Option ARM is a loan whereby the interest rate adjusts monthly and the payment adjusts annually. The options include interest-only, and a "minimum" payment that is usually less than the interest-only payment. The minimum payment option results in a growing loan balance, termed "negative amortization".
The facts are:
- $96 billion in Option Arms will reset by 2010;
- 90-day+ delinquencies, already ranging from 10-24% could more than double;
- The potential payment increase on these loans will be 63%; and
- Option ARM defaults are expected to spread into more expensive neighborhoods & higher priced homes.
In data released by HOPE NOW on August 28, 2008, it is clear that problems have spread to prime credit borrowers as well. Recently, prime foreclosure starts moved ahead of sub-prime foreclosure starts. In July 2008, foreclosures were initiated on 105,000 prime borrowers and 92,000 sub-prime borrowers. These starts on prime foreclosures are more than double the same time last year and are 10% higher than in June 2008. Sub-prime foreclosure starts are up 22% over last year and 10% since June as well.
As a Certified Distressed Property Expert, I have the knowledge and systems to help people find solutions to their financial problems well in advance of the foreclosure process starting. If a homeowner qualifies for a Short Sale, there are huge benefits to going that route -- most importantly there is little to no blemish on your credit report, you typically can negotiate the deficiency with the bank and, today, if your home is a primary residence and worth less than $2 million, you do not have to pay tax on the deficiency.
What is and is not a Short Sale?
There are a lot of words being thrown around today that require clarification. These include short sales, pre-foreclosure, foreclosure, sub-prime loans, deficiency judgments and taxes on the debt or deficiency.
The information below defines these terms and explains ways to deal with financial distress through short sales. Also outlined are the real differences between short sales and foreclosures so that homeowners can see the true benefits of a short sale.
A bank-owned house, or Foreclosure, is not a short sale. A seller deciding to lower their price and take less profit is not a short sale. To have a short sale, one of the parties has to be “shorted;” either the seller or the bank, and for the owner to qualify, a number of criteria must be met (see below).
A “short sale” occurs when the homeowner gets an agreement from the mortgage company to accept less than the full balance of the loan at closing. The homeowner closes on the property and the property is “sold short.” This occurs prior to a property entering the foreclosure process.
How Does A Homeowner Qualify for a Short Sale?
There are four criteria a homeowner must meet to qualify for consideration by the lender for a short sale. These are:
- There must be a demonstrable financial hardship, e.g., a lost job or material change in the financial situation;
- There must be a monthly shortfall;
- There must be insolvency, meaning that the owner does not have the money to pay down the mortgage; and
- The owner does not have any assets to sell to pay for the shortfall.
- Loss of job
- Business failure
- Damage to property
- Death of a spouse
- Death of family members
- Severe illness
- Mandatory job relocation,
- Medical bills
- Military service
- Payment increase or Mortgage adjustment
- Insurance or tax increase
- Reduced income
- Too much debt
What is the Insolvency Requirement to Qualify for a Short Sale?
The owner must not be able to pay down their mortgage. To qualify for a short sale, the homeowner must be financially insolvent. This means that they owe more than they have or that they do not have liquid cash or assets that could be used to buy-down their mortgage.
If the owner does have liquid cash or assets they will be expected to use them to pay down their mortgage. There could be a scenario where an owner made a contribution towards the sale of the property and the lender covers the shortfall.
A short sale is not a way to get out of a mortgage. It is a tool for a borrower to use when they truly can’t pay their mortgage.
Short Sales vs. Foreclosure: The Short Sale Option
Short Sales offer the homeowner many more benefits than going through a Foreclosure. In the case of a short sale, the benefits to the homeowner are:
- Only late payments on the mortgage show on a credit report and after the sale of the home, the mortgage will be reported as paid or negotiated. This could lower a homeowner’s credit score by as little as 50 points if all other payments have been made. The affect of a short sale can be as brief as 12 to 18 months.
- A Short Sale is not reported on a credit history. There is no specific reporting item for ‘short sale.’ The loan is typically reported as ‘paid in full, settled.’
- A Short Sale on its own does not challenge most security clearances whereas a foreclosure does.
- A Short Sale is not reported on a credit report and is therefore does not present a challenge to employment.
- In some successful short sales it is possible to convince the lender to give up the right to pursue a deficiency judgment against the homeowner, (i.e., payment of the shortfall or the difference between what was owed and what the bank received.)
- Under the Mortgage Forgiveness Debt Relief Act of 2007, if a deficiency is forgiven or cancelled, the home is a principal residence, and it is worth less than $2 million, the tax on the deficiency will be forgiven. This benefit applies to homes that are the subject of a Short Sale and a Foreclosure.
- A homeowner who successfully negotiates and closes a short sale will be eligible for a Fannie Mae backed mortgage after only 2 yrs.
- An Investor who successfully negotiates and closes a short sale will be eligible for a Fannie Mae backed investment mortgage after only 2 years.
Short Sales vs. Foreclosure: The Foreclosure Option
In a Foreclosure, homeowners fall behind in their payments and the bank typically repossess the house and sells it. In almost all cases, the bank pursues the homeowner for the deficiency. The only real way out of this type of situation is to file bankruptcy.
The Foreclosure process begins with the homeowner missing a payment. In fact, default on payment of the mortgage is the only way that a property can be subject to the foreclosure process. Once the lender decided to foreclose on the property, they must notify the homeowner that the process has been initiated. This can be done through the service of the document on the homeowner or by publishing the information in a legal journal. The notice tells the homeowner that the property will be put up for bank sale or auction and the date that this will occur.f
In the case of a foreclosure, the homeowner:
- Is ineligible for a Fannie Mae backed mortgage for a period of 5 years. (For an investor, this period is 7 years).
- In any future loan application, the borrower has to disclose if they had a foreclosure in the last 7 years.
- Foreclosure affects a homeowners credit score significantly. It can lower the score anywhere from 250 to 300 points and this can last for over 3 years.
- Foreclosure remains as a matter of public record on a person’s credit history for 10 or more years.
- Foreclosure can cause a person’s security clearance to be taken away and potentially their employment terminated.
- Employers have the right to check an employee’s credit history. A foreclosure can be grounds for immediate reassignment or termination.
- Employer’s ability to check an employee’s credit history can also affect a person’s ability to get employment.
- In most foreclosures, the bank has the right to pursue a deficiency judgment or collection of the difference between what the homeowner owes and what the bank gets as a result of the sale. The one benefit today is that in the past, the shortfall was reported as income on a homeowners taxes, significantly increasing their tax burden. Due to the Mortgage Forgiveness Debt Relief Act, the tax burden is being forgiven for primary residences valued at less than $2 Million.
It is important to understand that if one payment is missed, this does not mean the foreclosure process will begin immediately. Foreclosure is a legal process process the lender must go through in order to take possession of the property. This process takes time and there are options.
Pre-Foreclosure – The Time for Opportunity
Pre-Foreclosure is the period of time between when a home owner has missed their first payment and the final bank sale date. This is the point at which a home owner is in the process but they have not yet lost control of the property. “This time period is critical since the owner can list the property for sale, sign contracts, and do what they can to avoid foreclosure.” (Certified Distressed Property Institute, 2008)
As outlined in the list above, there are numerous important reasons to avoid foreclosure. Don’t lose control of your property, serious affect your credit or adversely affect your employability. Once you know you are in distress, contact a Real Estate professional that is knowledgeable about Short Sales and working with the banks to help you avoid the impacts of foreclosure.
What is a Sub-Prime Loan?
This is a marketing term for high risk loans previously referred to as “B and C” loans. Over time, these loans became riskier and riskier. The purpose behind these loans was to increase a buyer’s purchasing power. These loans first were allowed for up to 36% of net income and later were allowed for up to 50% of net income. They also were written for an extended period of time, i.g., 40 or 50 years, rather than the typically 30 or 15 year loans. There were interest-only loans where the homeowner only pays the interest and does not pay any principal on the debt. Finally, there were option arms which could double the borrowing power of the same borrower.
For More Information About Your Ability To Avoid Foreclosure, Contact Us at info@TeamRandyThomas. A Team Thomas specialist will contact you within 24 hours to discuss this with you in full.
In Springfield and the surrounding areas you do not see much short sales or pre-foreclosures. There certainly are some, but proportionately, Springfield has experienced far fewer than numerous other markets around the country.