Short Sales: The 5 Stages of residential dispossession Pt. 1

The 5 Stages of residential dispossession
Part 1: Short Sales


The process through which a home becomes Bank Owned or an REO (real estate owned) consists of approximately five stages.

1. Short Sale
2. NOD (notice of default)
3. Foreclosure
4. Auction
5. REO (real estate owned)

Over the next several weeks I will attempt to shed some light on this topic and hopefully provide some information or guidance that might help some homeowners avoid losing their home or at least minimize the impact of the inevitable.

Topic one (where a loan modification has failed) is the Short Sale and according to a recent article in the LA Times, the rate of foreclosure among outstanding mortgage loans in the Los Angeles metro area was 3.69% this October, compared with 1.75% in 2008. Those familiar with the real estate market in Q1 and Q2 of this year (2009) can appreciate what that could mean moving into the first part of next year… The national foreclosure average is 3% according to data released by First American CoreLogic, which tracks the mortgage market.

Delinquent loans 90 days or more past due constituted 10.9% of all mortgage loans in the Los Angeles area, up from 5.86% during the same month the year before. So it is likely that we’ll see a lot more short sales and foreclosures in 2010.

Please note that although I am a licensed real estate agent and member of the California Association of Realtors I am NOT and attorney, accountant or loan officer. If you need advice in any of these areas you should contact the appropriate professional. The information herein is meant to offer general information and although deemed to be accurate is not guaranteed.

The Short Sale

In the current real estate market, short sales and foreclosures represent a new traditional real estate transaction. It’s an unfortunate fact of life that over the past several years many homes were purchased for substantially more than their current value. In a recent Wall Street Journal piece “One in Four Borrowers Is Underwater “, writers’ Ruth Simon and James R. Hagerty state that nearly 10.7 million households , or about 23% of homeowners with mortgages had negative equity in the third quarter of 2009. It is estimated that more than 520,000 of these borrowers have received a notice of default.

A short sale is a lender approved sale of real estate in which the sale price is less than (or short of) the mortgage balance.

For agents, knowing how to maneuver the complexities of a short sale, on either side of the transaction is not merely a good skill to have in today’s market, it’s critical.

Distressed homeowners’ are in a race against the clock to avoid foreclosure and buyers need to identify sound real estate opportunities quickly to avoid wasting time and missing opportunity. In either case the agent must be able to evaluate all available options and identify or establish the components of an effective short-sale package.

Anatomy of a Successful Short Sale

Successful short sales require 3 elements:

1. Seller opportunity to get out of a bad situation with minimal credit damage.
2. Buyer gets a deal, purchases property below the true market value.
3. Lender nets more money than a foreclosure action would bring.

Sellers

It’s important to note that Short Sales will not work if the property has sufficient equity for the lender to foreclose, sell as an REO and at least break even. The homeowner must be “upside-down” in their loan for the lender to approve a short sale.

When a homeowner experiences a hardship and can no longer pay the mortgage the first and best option is a lender approved short sale to attempt to avoid foreclosure. Whereas there are still negative credit implications associated with a short sale, they are much less severe.

The first step is valuation, what is the current market value of the subject property? As stated above, if there is sufficient market value in a home a lender will not approve a short sale and perhaps a quick standard sale (even if it requires some money out of pocket) is the best solution.

Establishing the current market value of a home involves measuring the subject property against other properties in the neighborhood that have sold recently. An experienced agent, with working knowledge of an area can put together a Current Market Analysis or CMA or there are tools available online to get a rough idea of value. Understand the there are many factors from square footage, lot size and the age of a structure to amenities like pools, views and location in a given community etc. that can affect the value of one home as compared to another.

If it is determined that the current market value is significantly below the amount owed, then the second step is to contact the lender(s) for a short sale application and instructions specific to their policy. If the seller is working with an agent (and in most cases they should be) they need to execute the proper documentation to authorize the agent to deal directly with the lender and the initial call to the loss mitigation department or the person named in demand letters should be placed together. This is the best way to establish a working relationship, answer questions, verify information and get outline of what they want and how they will make a decision on a short sale.

Beyond these initial steps, any successful shot sale will require a properly prepared Short Sale Packet which can easily be in excess of 50 pages. Closing statements, purchase contracts, market statistics, financial documentation, disclosures and a plethora of other forms, agreements and miscellaneous information must be provided, however one of the more critical elements of the packet is the Hardship Letter.

The numbers are the only thing that a lender cares about, so the hardship letter should NOT be a sob story. It MUST be a factual description of a financial hardship that is leading to bankruptcy, foreclosure or both. The lender needs be convinced that the only other option is foreclosure, at which point they will analyze the situation and determine whether a short sale is a preferable direction.

It must be made evident that the borrower is headed for foreclosure or bankruptcy. The letter needs to give a clear picture of the financial condition and be backed up with documentation (pay stubs, medical bills, termination letters etc).

The average cost for a lender to foreclose is approximately $50,000 and there are the reserves that lenders are required hold to back up non-performing loans. Lenders don’t like to tie up resources to back up these loans and are generally open to alternatives.

Certainly there is more to consider. Pursuing a short sale is a complex process and in some cases, if caught in time it can be avoided. In others foreclosure is inevitable. If you are concerned about maintaining your mortgage or have questions about the process please call or email at your convenience

Buyers

A true Short Sale opportunity is where a homeowner owes more on their home than they will receive from a standard sale and a situation where the lender will approve a price that meets your budget.

Obviously for the buyers’ part, a purchase at the lowest possible price, that the lender will approve is the goal. Priorities for a buyer would be to establish that the homeowner is upside-down in their loan, that the target property is worth less than the total amount owed and that true hardship for the seller exists to convince the lender that a short sale is necessary. Also to be sure of clear title, that there are no prohibitive liens or other claims against the property that will stall the process or cause it to fail. If the loan is VA or FHA, the situation needs to meets their specific criteria for a short sale.

Buyers beware! All homes advertised as “Short Sale” are not necessarily short sales and potential buyers need to verify if and when the paperwork was filed with the lender(s) and whether that paperwork was properly completed. If not, you may end up wasting a lot of time and energy, the home will be foreclosed and you’ll be back to square one. Considering that most short sales involve property that is already in default, time is of the essence. There must be enough time to complete the process before a foreclosure action is completed. This requires a willingness and cooperation from the seller and the lender as well as the motivation to work to avoid foreclosure.

Of course I’ll suggest that you are best served by working with a licensed agent or Realtor who has short sale experience, however if you choose to go it alone, do your homework and remember that the sellers agent was retained by the seller, is working against the clock in an attempt to find a qualified buyer and to strike a deal with the lender. Many agents listing short sales are handling several at once. Your best interest may be best served by you being informed or using an experienced agent focused on you alone.

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