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What is a short sale?

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Short sales were common from 2008 to 2012, but they are rare in today’s booming housing market. Still, these distressed sales could become part of the homebuying landscape again. A short sale can yield a good deal on a property, but it generally takes a certain amount of fortitude and patience, plus a lot of luck.

What is a short sale?


Short sale definition

A short sale is when a mortgage lender agrees to accept a mortgage payoff amount less than what is owed in order to facilitate a sale of the property by a financially distressed owner. The lender forgives the remaining balance of the loan.


Buying a home through a short sale is different from buying a property at a foreclosure auction, or one that is actually owned by the bank, known as an REO or real estate owned property.

A short sale occurs only with the lender’s permission when a home’s value has declined, and the mortgage holder owes more than the home is worth. In this scenario, the homeowner has negative equity and might need to get rid of the home.

Short sale vs. foreclosure

A short sale is not the same as a foreclosure. In a foreclosure, the lender repossesses the property and then tries to sell it for enough to recover its costs. In a short sale, a lender accepts that it won’t recover its outlay, and it’s considered the better option than dealing with the red tape involved with foreclosure and then going forward with handling a separate transaction.

Who benefits from a short sale?

Short sales are a mixed bag for the buyer, the seller and the lender.

If you’re a seller, a short sale is likely to damage your credit — but not as badly as a foreclosure. You’ll also walk away from your home without a penny from the deal, making it difficult for you to find and pay for another place to live.

However, a short sale can forestall foreclosure and its negative impact on your credit. A short sale is less damaging than a foreclosure as long as the homeowner can persuade the lender to report the debt to credit bureaus as “paid in full.”

The buyer gets the property at a reduced price, but the property in all likelihood has its share of problems — think fixer-upper — and the deal needs to go through considerable red tape to make it happen. A lender might even require a buyer pay additional closing costs that might be normally assigned to the seller.

The lender takes a financial loss, but perhaps not as large a loss as it might if it foreclosed on the property.

In a short sale, the proceeds from the transaction are less than the amount the seller needs to pay the mortgage debt and the costs of selling. For this deal to close, everyone who is owed money must agree to take less, or possibly no money at all. That makes short sales complex transactions that move slowly and often fall through.

For the most part, everyone gets some sort of benefit in a short sale, although everyone gives up a little, too. In the end, a short sale is about staving off worse outcomes.

Should I sell my home through a short sale?

Whether you should proceed with a short sale depends on your individual situation and what’s likely to work best for you in the long run. If you can’t afford your mortgage, and if home values have dropped in your area, you might not have much of a choice. A short sale might be able to help you preserve your credit to some degree by helping you avoid a foreclosure on your record.

How long does a short sale take?

A short sale can take as little as a few weeks or as long as several months. Because short sales are complicated transactions, they tend to be more time-consuming. Plus, the original lender needs to review the short sale offer to determine whether they will accept it. If the lender believes they can make more money by going through the foreclosure process, they might not accept the short sale proposal.

You can reduce the time it takes by working with a real estate agent that has experience with short sale transactions. A short sale is one real estate deal where you really need to get help from an experienced agent or attorney. Not all real estate agents know how to handle a short sale, so make sure you consult with one who can demonstrate special training and a good track record. Having a real estate agent on your side who knows how short sales work — and who has negotiated others — will increase the chances of closing the deal.

How often do short sales fall through?

Short sales are complex, which means they fall through on a fairly regular basis. To reduce the odds that your short sale falls through, have the following on hand:

1. A hardship letter 

This is a letter explaining why you’re not able to continue making payments on your loan. It should include details that hammer home why you’re truly unable to make payments, rather than an explanation of why you’re tired of dealing with financial difficulties. A borrower who can barely afford their mortgage payment but potentially could if they cut down spending in other areas, for example, won’t have a compelling letter. A borrower who’s lost their job, is dealing with major illness and out of savings will have a better chance.

2. Proof of income and assets

If the seller has money in the bank, including retirement funds, it is unlikely that the lender will let the debt slide. The proof of income and assets must include income tax and bank statements going back at least two years. Sometimes sellers are unwilling to produce these documents because they conflict with information on the original loan application, which might not be completely accurate. If that’s the case, the deal is unlikely to close.

3. Comparative market analysis (CMA) 

A comparative market analysis (CMA) takes into account the value of similar properties to estimate the value of the home you’re trying to sell. If you can show that your home’s value has dropped and there’s little chance it will increase in price enough to cover your balance, that can help your case. The analysis should include comparable properties that have sold in the past six months (the more recent, the better).

4. A list of liens

Determine how many liens are on the property — there might be more than one. The good news is that since late 2008, the IRS has been willing to release a federal tax lien. The IRS is not forgiving the back taxes that homeowners owe; it is just no longer requiring that the lien be paid off before the property can be sold. A single mortgage lien is an easy problem to solve.

Alternatives to a short sale

One alternative to a short sale, of course, is simply allowing the mortgage lender to foreclose on your home. A foreclosure on your record, though, can make it very hard to get a mortgage in the future, so it should be a last resort, not your first option.

Another potentially better option is a loan modification, which adjusts the terms of your loan so that the monthly payments are more affordable. Unlike refinancing, a loan modification often doesn’t require a home appraisal, making it easier to get when you’re underwater on your home.

How buying a short sale home works

With a short sale, you won’t be able to simply purchase a home for a good price. Here’s an overview on buying a short sale home:

  • The lender must agree. First, the lender must agree to the short sale. For a regular home sale, the seller would use the proceeds to pay off the original loan. In a short sale, the home sells for less than the seller owes, so the lender won’t get all their money back. As a result, the original lender must agree to the sale.
  • The seller must prove they have no other option. The seller needs to show some sort of hardship. If they can prove that they can’t keep making mortgage payments and will eventually default, the lender is more likely to agree, especially if the lender doesn’t want to go through the foreclosure process and then sell the home on its own.
  • A home’s price must be in line with market value. In many cases, short sales go through because the market is faltering, and the home’s value has dropped accordingly. The price the buyer is paying must usually be at market value.
  • Short sales need to be disclosed. Finally, when a home is listed for less than what’s owed on the mortgage, that must be disclosed upfront. Potential buyers should be aware that the sale price on the home is less than the mortgage balance, so they’ll be responsible for negotiating with a lender, as well as dealing with the seller.

Steps to buying a house through the short sale process 

A typical short sale involves a series of steps, generally in this order, according to Bobbi Dempsey, co-author of “The Complete Idiot’s Guide to Buying Foreclosures.”

  1. Identify potential short sales
  2. View the property
  3. Do your research
  4. Find all liens and mortgages
  5. Figure out the financing
  6. Contact the lender
  7. Complete the lender’s short sale application if required
  8. Assemble the proposal
  9. Negotiate the terms
  10. Seal the deal

Step 1: Identify potential short sales

Locate pre-foreclosures in your area by checking online listings, searching courthouse listings, legal ads or using an experienced buyer’s agent.

First, try to determine how much is owed on the house in relation to its approximate value. If it seems high, it’s a good candidate because it indicates the seller might have trouble selling it for enough to satisfy the loan. Pass on those in which the owner has a lot of equity in the home — the lender likely will prefer to foreclose and resell closer to the market price.

Step 2: View the property

Gauge its condition and come up with a rough estimate of how much it’s going to take to repair or renovate. If it needs work, many “normal” buyers won’t consider it, which is good for you.

Step 3: Do your research

What is the property worth? What’s the profit potential? If you’re an investor or even a homeowner planning to live in the home a short time, you’ll want to profit from the deal.

Step 4: Find all liens and mortgages

Ask the seller or the agent what liens are on the property, and which lender is the primary lien holder. Confirm this information through a title search before closing the deal to make sure there are no undisclosed liens on the property.

Step 5: Figure out the financing

This is critical. You have to know how you’re going to pay for the property. If you’re a good credit risk, the existing lender may be willing to give you a loan. Since they already have a lot of your information in the short sale paperwork, they may be able to expedite the loan application process.

It’s important to understand that in a short sale you need the ability to move quickly. Once an agreement is worked out, it is common the lender will require closing in as few as 20 days. This is too late to start shopping for a mortgage.

Step 6: Contact the lender

You or your agent should speak with the lender’s loss mitigation department — or perhaps the resource recovery department — rather than the collection or customer service department, which is only interested in recouping past due loan payments.

Finding the decision-maker can be one of the biggest initial challenges. You will first need to have the homeowner complete and sign an authorization letter (notarization is usually required), which gives the lender permission to discuss the mortgage situation with you.

Step 7: Complete the lender’s short sale application if required

Many lenders have an application specifically for a short sale request. If they don’t have a short sale application, find out what paperwork they need to consider a short sale.

Step 8: Assemble the proposal

The proposal generally consists of a package of materials including the application and authorization letter, plus:

  • Purchase and sale contract
  • Hardship letter
  • Statement of the property’s value
  • A detailed description of the costs and liabilities
  • Settlement statement

Step 9: Negotiate the terms

It’s not uncommon for the lender to reject your offer or to come back with a counteroffer. As with any real estate transaction, you should figure out beforehand what your absolute highest limit is, and don’t be afraid to walk away if the lender won’t meet your figure.

Step 10: Seal the deal

Once you’ve reached an agreement that all three parties — you, the seller and the lender — can live with, get everything in writing and officially recorded. Make sure the seller understands all of the terms of the deal. Next comes the closing and the property is yours.

Common mistakes short sale buyers make

  • Skipping the home inspection – A home inspection helps you identify issues you might otherwise miss, such as necessary repairs or maintenance. If you find a major issue, you might want to back out of the deal. Better yet: Have a contractor or home engineer at the ready in case the inspection uncovers a complex problem — they can provide valuable insight on the cost to remedy, which can help you make a more informed decision about the sale.
  • Ignoring legal and insurance information – A typical disclosure statement would indicate whether a house is in a flood plain or had any unpermitted renovation. However, bank-owned properties often sell as is, without disclosure, so buyers need to do extra research on the home.
  • Leaving too little time for closing – Closing on a home under normal circumstances can take time, and closing on a short sale typically takes longer than that. Make sure to account for this delayed timeline in your plans.
  • Falling hard for a bad home – Real estate is an emotional market — it’s easy to fall in love with a home once you start imaging yourself living in it. However, you need to remember that you’re primarily making a financial transaction. Don’t assume you’re getting a great deal, says Connecticut real estate investor Jim Randel, author of “The Skinny on the Housing Crisis.” Consider what you’d need to spend on the home to make it habitable, whether you can afford to rent the home out for less than your mortgage payment and what would happen if the home’s value declines. These tangible factors, rather than emotion, should drive your decision-making. 

Additional reporting by Miranda Marquit

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Written by
Jeanne Lee
Contributing writer
Jeanne Lee writes about mortgages, personal finance and enjoys finding ways for people to hack their finances.
Edited by
Mortgage editor