Everyone COULD win on home 'short sale'
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"If they're just having a short-term problem -- short-term disability or maternity leave or layoffs, but they have good prospects to find something soon and they can weather the storm and hold onto the profit through that -- obviously they wouldn't want to think about a short sale," says Lohrenz.

"But if the choice is foreclosure or short sale, generally a short sale is going to be a better idea."

Before you think about asking your lender to consider a short sale, it would be a good idea to get your paperwork lined up.

Be ready to document your need and to show the lender you are serious about your situation, including a hardship letter (an honest explanation of your financial situation and how it occurred), pay stubs, bank statements, tax returns, an appraisal and documentation of your debts.

3 critical safeguards
If you're considering a short sale, experts advise you to take the following steps to meet potential negative consequences head-on.

3 critical safeguards:

1. Get it in writing. 2. Protect your credit. 3. Work with a tax pro.

Get it in writing. Make sure the lender agrees in writing that the short sale will absolve all debts.

"If they owe $300,000 on the house and the short sale is for $280,000, is there any possible way that the lender's going to come after them for the $20,000?" Lohrenz says. "Most lenders will put that in the agreement that they're not going to come after the deficiency."

Protect your credit rating. Ask the lender how it will report the short sale on your credit report.

"Most of the time, a short sale shows simply that a debt is satisfied," says Lohrenz. "But theoretically, a short sale could reflect on the credit report as 'settled for less than the full balance.'" Such a designation is a negative mark on your credit report, though it wouldn't hurt your credit as much as a foreclosure would.

Get professional tax advice. Short sales often have tax repercussions since lenders can claim the forgiven debt as income that they provided you.

That means if you agreed to a short sale for $50,000 less than what you owed the lender, the lender could issue you a 1099 for $50,000, which you would have to pay taxes on.

But there are two "outs," says Lohrenz. "If you meet the IRS's definition of insolvency at the time the debt was forgiven, then you generally don't have to pay taxes on it."

Or, if your home loan is a non-recourse loan, you're also likely to escape this tax. With a recourse loan, whoever signed the note is personally liable for the debt, and in a short sale, the debtor would have to pay tax on the difference. A nonrecourse debt is one secured by the loan collateral -- such as the house itself -- and the debtor would not have to pay tax on the sale shortfall.

The most common case is that mortgages secured by the property -- especially for buyers who made a 20 percent or more down payment -- is a nonrecourse loan. But it is absolutely critical you consult a tax attorney before you make such a move to ensure that you don't dig a deeper financial hole as a result of the tax situation.