05/19/09: Streamlining Short Sales
By Benny L. Kass
Your home is under water. The mortgage is higher than the current value of your house. Your real estate agent suggest a "short sale" and you ask "what's that"?
The answer: it is where you sell the property for the current market value, your lender agrees to take all of the net proceeds, and you walk away from the house.
Since the foreclosure frenzy started last year, many consumers have engaged in short sales, only to find that it was complex, and time consuming. Lenders delayed making a decision on whether to accept the process for months. In many cases, potential buyers walked away from the deal, since they wanted to buy a house quickly and not lose a favorable mortgage loan.
The Obama administration recognized these problems and on May 14th, announced financial incentives and uniform standards and procedures for parties involved in these short sales.
According to Housing and Urban Development (HUD) Secretary Shaun Donavan, "foreclosure alternatives provide incentives for (mortgage) servicers and borrowers to pursue short sales and deeds-in-lieu of foreclosure (DIL) in cases where the borrower is generally eligible for a Making Home Affordable modification but does not qualify or is unable to complete the process..." These alternatives, Donavan said, help "prevent costly foreclosures and minimizes the damage that foreclosures impose on borrowers, financial institutions and communities."
The plan, to be implemented when standardized documents are issued by the government, does not cover everyone. To be eligible, the home must either be owner occupied, or a 1-4 unit property. Condominiums, cooperatives and mobile homes are eligible.
First trust loans must have an unpaid principal balance - before including any arrearages - equal to or less than $729,750. For 2 units this increases to $934,200 and goes up to $1,403,400 for 4 unit buildings.
If you qualify, here is a summary of how the process will work. There will be a standard "Short Sale Agreement" and an "Offer-Acceptance Letter" which will be universally used. The lender must independently evaluate and establish the market value and determine the minimum acceptable price that it will accept.
The borrower must list the property with a licensed real estate agent who has experience in the area where the house is located. Lenders must allow at least 90 days for the property to be marketed and sold, although more time can be allowed depending on market conditions in the area.
The short sale process can proceed even if the lender has started the foreclosure process, but the actual foreclosure sale cannot take place until the timelines have been exceeded.
The real estate agent is entitled to receive the usual and customary commissions, which can be deducted from the selling price. This is a significant change from the way short sales have been conducted. In the past, real estate agents often had to significantly reduce their commission in order to obtain lender approval. Under the new guidelines, the lender must agree not to negotiate a lower sales commission after an offer to purchase has been received.
There are also financial incentives offered by the federal government. Lenders may receive "incentive compensation" of up to $1,000 for completing a successful short sale. Borrowers (the home owner) may also receive compensation of up to $1,500 to assist with any relocation expenses.
Perhaps the most significant hurdle facing short sales is where there is a second mortgage on the property. The first lender is willing to engage in the short sale because it is less expensive than a foreclosure. More importantly, many times, no one buys at the auction sale, and the lender ends up stuck with the house - and the associated costs involved with its upkeep.
However, although the first trust lender is taking a hit, but getting some cash from the sale, the second trust lender will be completely wiped out. Typically, these second place lenders object to the fact that they will get nothing in exchange for releasing in full their security.
The new plan attempts - in a modest way - to satisfy these concerns. The US Treasury has agreed to share the cost of paying junior lien holders to release their claims, and will match $1 for every $2 paid by the senior lien holder, up to a total contribution of $1,000 by the Treasury. In effect, the junior lienholder will get a minimum of $3,000. Clearly, this will not satisfy those lenders. But they also recognize the reality of the situation. If a foreclosure takes place, second trusts are by law eliminated. And although that second lender still has the right to file suit against their borrower under the promissory note that was also signed, as a practical matter, such a lawsuit becomes meaningless against an insolvent debtor.
Although borrowers cannot be charged a fee for engaging in such a sale, unfortunately the plan is silent as to whether the lender can require the homeowner to come up with any additional money to cover the lender's shortfall. Perhaps the fact that the borrower may get $1,500 from the Treasury resolves this issue, but HUD must address this important issue when drafting the implementation documents. From my personal experience, some lenders will waive any such payments, while other will demand a large percentage of the shortfall to be paid by their borrower.
This new program also addresses deeds-in-lieu. This is a procedure where the homeowner says: "lender, take my house and release me from my loan." If the lender agrees, they save the cost of foreclosure, which includes legal fees, advertising costs and auctioneer charges.
This new program will end on December 31, 2012. It should only be considered as a last resort by distressed homeowners, since even if you engage in a short-sale or a DIL, your credit rating will be impaired. You should first consider refinancing, if possible, or seeking a loan modification from your current lender.