Short Sales In Real Estate: A Guide For Buyers And Sellers

Have you heard someone say they were “underwater” on their home? This means they owed more on their mortgage loan than their home was worth. 

A short sale can be an option for homeowners struggling to keep up with their mortgage payments.

In this article, we’ll explain what a short sale is, how it works, and the pros and cons of short sales for both the seller and buyer.

What Is A Short Sale In Real Estate?

A short sale in real estate happens when the borrower cannot cover their mortgage payments and has to sell their home. The proceeds then go to their mortgage lender, and the borrower will have to pay any outstanding debt the sale doesn’t cover if the lender wins a deficiency judgment against them.

A short sale is an alternative to foreclosure, which damages the borrower’s credit more and provides no repayment to the lender.

Because homes usually deteriorate under an owner in financial trouble, real estate sold in a short sale has a reduced price. As a result, investors and first-time buyers can benefit by purchasing property at a lower cost than usual.

Why Does A Short Sale Occur?

A short sale occurs because the homeowner can’t afford their mortgage payments. This financial inability can arise from various factors, such as job loss, unexpected medical bills, or a pay cut.

Additionally, the homeowner must owe more than the home is worth for a short sale to occur. For example, if a homeowner’s mortgage balance is $225,000 and their home is worth $200,000, the lender could grant permission for a short sale. 

How The Short Sale Process Works

You can purchase a short sale property through these easy steps:

1. Get Your Initial Approval

Initial approval from your mortgage lender is crucial because it states how much you can borrow to purchase a home. Without initial approval, you might look at homes outside your price range. Furthermore, sellers generally hesitate to accept offers that don’t have approval because of the lack of financial backing. Waiting for lender approval after an offer is accepted costs the buyer and seller time, and there is no guarantee the approval will come through. So, obtaining preapproval first can strengthen your position as a buyer.

2. Find A Real Estate Agent 

Working with a real estate agent to find a short sale is an excellent idea. Real estate professionals have MLS access and can help locate short sale properties. Plus, their knowledge of local housing markets can help you find valuable homes at discounted prices.

3. Make An Offer

When you find a short sale home you’d like to purchase, it’s best to make an offer quickly – but don’t lowball it. Although a short sale often means lower prices, the mortgage lender wants to recover as much money as possible. Therefore, the seller is more likely to accept a competitive offer. The home’s market value, neighborhood, and broad economic trends contribute to what price makes sense.

4. Have A Home Inspection

Short sale properties are sold as is, diminishing the buyer’s ability to negotiate. Even so, it’s a good idea have a home inspection so you’re aware of necessary repairs or renovations. Also, a home inspection can indicate when it’s better to walk away from a home than commit to a property riddled with issues. You may not be able to request a lower price when the home inspection reveals problems, but you can look for other short sales if the home’s damage is overwhelming.

5. Wait For Lender Approval

Although preapproval makes the home buying process more efficient, waiting for lender approval on the seller’s end still takes time. Usually, receiving approval from the seller’s lender takes longer than any other step.  

6. Close On The Home

Once the seller’s lender approves the sale, you can close and move into your new home!

Remember, this step involves the seller submitting a hardship letter stating they can’t afford their mortgage, proof of their financial inability, and a list of liens showing how many parties have a financial interest in the property. In addition, the seller’s lender will perform a comparative market analysis to determine what sale price is acceptable.

The Pros And Cons Of Short Sale Homes

These are the advantages and disadvantages for buyers and sellers with short sale homes:

Short Sale Pros

Short sales benefit buyers and sellers in the following ways:

• Buyers: Buyers get homes at discounted prices through short sales because the seller and mortgage lender are eager to sell. Also, the volatile elements of short sales – such as the varied conditions of homes for sale and fluctuating time frames – drive away buyers and reduces competition.
• Sellers: Short sales allow sellers to avoid foreclosure and have an easier time buying another home. Specifically, homeowners who were on time for every mortgage payment in the year before their home sale can qualify for an FHA mortgage loan.
  
  Plus, a short sale allows the seller to live in the house until it sells, and the lender pays the closing costs and real estate commissions instead of the seller. Lastly, sellers can rid themselves of debt through the proceeds of the short sale and debt forgiveness from their lender after the transaction.

Short Sale Cons

However, buyers and sellers also face specific challenges with short sales:

• Buyers: Short sales require more time because the seller’s lender and involved lienholders confer with each other whenever they receive an offer. Communication over a short sale can become drawn out as the lender determines if they will make enough money back from a specific buyer. The process can take even more time if the seller is slow filing the required hardship letter and financial documentation.
  
  Lack of negotiating power and challenges defining a home’s value can also be obstacles. As a result, buyers interested in short sales usually research properties extensively and risk unforeseen lienholders delaying or canceling a sale.
  
  Finally, because the seller doesn’t have sufficient resources to pay the mortgage, the home could be in poor condition and in need of repairs. This factor can reduce home values and make the home more of a liability than an asset.
• Sellers: A short sale hurts a seller’s credit score. It also doesn’t provide a financial return for the seller because the lender collects the proceeds. Additionally, the lender decides the home price instead of the seller.
  
  Furthermore, the lender can sue the seller for the difference between the short sale price and the outstanding mortgage, decimating the seller’s credit. Lastly, after a short sale, the seller usually has to wait 2 – 7 years to obtain a mortgage if they don’t get an FHA loan.

Short Sale Houses: FAQs

Here are commonly asked questions that emerge when buyers and sellers pursue a short sale:

What are the alternatives to short sales?

Alternatives to a short sale include:

Loan modification, a payment plan from your lender, refinancing your mortgage, renting out part of your home to afford your mortgage, and foreclosure.

What’s the difference between a short sale and foreclosure?

A short sale means the seller retains ownership and residency of their home while working with their lender to sell the home at a reduced price. On the other hand, a foreclosure means the lender takes ownership of the home after the homeowner fails to pay the mortgage for 90 days, sells the home, and evicts the homeowner. Both of these scenarios will likely damage the homeowner’s credit.

Should I buy a short sale home?

A short sale home can be an excellent investment if you thoroughly research short sale properties, obtain lender approval, and find a home that doesn’t require extensive repairs or renovations. However, short sales can take more time than traditional home sales and present buyers with homes in desperate need of fixing.

How long does a short sale take?

A short sale can be a long transaction between the buyer and seller. That said, it’s vital to make an offer right away on a home you’re interested in, even if it takes a while to close.

The Bottom Line

Short sales can provide relief to sellers in financially challenging situations and create opportunities for buyers. However, they also take longer to transact than conventional home sales. In addition, needed repairs and opinionated lienholders can complicate short sales, creating drawn-out negotiations and financial headaches.

Therefore, sellers considering a short sale should discuss options with their lender before absorbing the credit implications of such a move. Similarly, it’s recommended that buyers do their homework and work with a real estate agent to ensure the home sale they’re interested in is an optimal purchase.

If you want to purchase a short sale home, it’s wise to go ahead and start the initial approval process.