Top 10 Essential Things to Know About Short Sales

In recent years, short sales have become more prevalent as the real estate market shifted and banks sought to avoid the expensive foreclosure process. While these transactions can be lengthy and stressful, they often result in a positive outcome for everyone. The seller is freed from the debt, the buyer secures a property at a great price, and even the bank may find itself in a better position.

Whether you're on the selling or buying side, there are important factors to consider when thinking about a short sale. Let’s review some of the most critical ones.

10: Short Sale vs. Foreclosure

A short sale is distinct from a foreclosure. In a short sale, the homeowner plays an active role, while in foreclosure, they are largely absent. Homeowners opting for a short sale are typically trying to avoid foreclosure by negotiating with the bank. When buying a foreclosed property, the challenge of evicting previous owners can arise, but this issue is not present with a completed short sale.

For the seller, a short sale does not affect your credit as severely as a foreclosure. While it still tarnishes your credit score, the impact is not as prolonged. After a short sale, you may be eligible for another mortgage in just two years, whereas a foreclosure can linger on your credit report for as long as 10 years.

9: Long Closing Time

The term "short sale" can be somewhat misleading. It doesn't refer to the speed of the process but rather to the seller being 'short' on the loan repayment. This is why short sales can take anywhere from four to nine months, or sometimes even longer. The bank doesn't simply inform the seller of what it will accept for the property, so while the seller and buyer agree on a price, the seller must also obtain the bank's approval. This approval process can be lengthy, and if the bank rejects an initial offer, it prolongs the entire procedure.

8: Eligibility

To qualify for a short sale and avoid foreclosure, several criteria must be met:

The bank will require written confirmation that you meet all of the required criteria. Securing approval for a short sale can be a lengthy procedure on its own.

7: Find an Agent

This is not the time to handle things independently: An experienced real estate agent with expertise in short sales can make a significant impact, especially for the seller. Short sales involve considerable paperwork, and a knowledgeable agent can help facilitate the process more efficiently. Banks are now dealing with more short sale requests than ever, and well-organized paperwork is more likely to be processed faster. Timing is crucial in a short sale. If a buyer isn't secured quickly, the risk of foreclosure remains a possibility.

6: Frustration Factor

A short sale can offer a great deal for you as a homebuyer, but proceed with caution. Less than 25% of short sales actually close, and much of the delay comes from the back-and-forth between the buyer, the seller, and the bank [source: Armour]. Many buyers get frustrated and walk away from the process. Despite the abundance of foreclosures available, completing a short sale is still challenging. Banks are working to streamline the process, but in the meantime, make sure you understand what you're getting into when you submit an offer on a short sale.

5: Avoid Bankruptcy

Many sellers contemplating a short sale may be facing additional financial challenges, such as significant debts, which could lead them to consider filing for bankruptcy. While bankruptcy can assist with clearing these debts, it will complicate or even prevent a short sale from going through. The reason is simple: When you file for bankruptcy, banks and creditors are prohibited from collecting payments from you. Since a short sale is a form of collection, it directly conflicts with bankruptcy laws. It's important to consult a professional to explore options that allow you to avoid bankruptcy altogether.

4: Lender Advantage

It may seem paradoxical since the lender is accepting a loss on the property, but a short sale often benefits the lender in the long run. Foreclosure can be quite costly, and a short sale allows the bank to avoid those expenses. Foreclosing on a property requires the bank to pay for evictions, property maintenance, and taxes until it eventually sells. A short sale eliminates these ongoing costs, removes the liability from the bank, and also helps keep a foreclosure off the bank’s record, improving its public image. In essence, a short sale turns a difficult situation into a manageable one for the lender.

3: Buyer Beware

Just like with foreclosures, many short sale homes require repairs—sometimes quite a bit of work. The homeowner’s financial troubles often mean upkeep was not a top priority. If you’re thinking about purchasing a short sale, visit the property in person and enlist a trusted inspector to do a thorough evaluation. Since many short sales are listed "as-is," you won’t be able to ask the seller to fix anything. Make sure you include the potential cost of repairs in your budget before making an offer. It may still be a great deal, but you need to be aware of what you're committing to.

2: Get the Lenders on Board

Keep in mind that multiple lenders may be involved in a short sale. Many homeowners in financial distress also have a second mortgage or a home equity line of credit, and you’ll need the approval of these lenders as well. This can complicate the process, since these "junior lenders" often absorb a significant portion of the loss. While it's essential to engage with the primary lender first, don't forget to check for any additional liens on the property. Skipping this step can create significant problems down the road and will definitely delay the process.

1: Seller Beware

Navigating a short sale can be complex for both parties involved. As a short seller, the bank could potentially sue you for the remaining loan balance, so it’s crucial to protect yourself. While many states allow "deficiency judgments," which are claims the bank can make when a borrower fails to repay a loan, not all states follow this rule. It’s wise to consult an experienced real estate agent or attorney to understand the laws in your state. In certain situations, you may be able to negotiate with the bank to waive their right to pursue you for the outstanding balance as part of the short sale agreement.