SHORT SALE VS FORECLOSURE: WHY A SHORT SALE IS BETTER THAN A FORECLOSURE
July 28, 2020
The real estate market has come a long way since the mortgage crisis of 2008. Options to avoid foreclosure are more attractive than they were during the early days of the Great Recession, now more than a decade ago.
If you're at risk of losing your home, a short sale may be your best bet to a faster financial recovery. Take a look at these reasons why you should pursue short sale vs foreclosure if you're behind on your mortgage payments.
Is Real Estate an Asset?
Most people can't afford to purchase their homes in cash, consequently American homebuyers utilize a 30 year mortgage, meaning it will take around 30 years to fully repay the debt with interest.
Does this mean most people can't afford to buy the house they live in? Not at all.
Lenders are willing to offer such large amounts of money to homeowners to buy homes because mortgages are a secured loan. For the banks, secured loans are less risky than unsecured loans because they have collateral, your home, to back up the amount of the loan.
Collateral is a physical asset that can be sold if the borrower can't repay their debt. If you default on your mortgage agreement, the lender forecloses your property to limit the banks financial loss.
Fifty years ago, financial experts would almost all agree that your home is an asset. But when the housing market crashed in the Fall of 2008, many Americans lost significant value in their homes, and some have not recovered near as well as others.
What Is a Short Sale?
A short sale occurs when a seller sells their home through a Realtor to a new buyer for less than is owed on the seller’s mortgage. Lenders are willing to consider a short sale because it lessens the loss to the bank. Consider how much more can be obtained for a home in a Short Sale that is listed for sale, potential buyers are allowed to view the interior of the home and use financing to make the purchase. Contract that to foreclosure where the sale is published in a paper that no one reads, potential buyers are not allowed to view the interior of the home and must make the purchase the day of the foreclosure in cash. That is what makes a short sale one of the best alternatives to foreclosure – both the borrower and bank come out better than they would if the home is taken by foreclosure.
For homeowners who are upside down on their mortgages AND can’t afford their payments, a short sale is a great option. Unlike a traditional real estate transaction, the money from the sale of the home won't go to the seller. All proceeds from the sales transaction go to the lender to cover the outstanding debt on the mortgage.
The remaining balance, or deficiency, is often fully or at least partially written off as bad debt by the lender allowing you to walk away from a bad situation cleanly.
Short sales are only available to homeowners in financial distress as a foreclosure alternative. Your lender will look through your financials (although retirement assets may be excluded) to consider whether foreclosure is imminent It is rare that a lender would approve a short sale just because the owner owes more on their mortgage than the home is worth, you have to show you can’t afford the payments due to no income, reduced income, or a situation that has changed, ie divorce, death, disability. Keep in mind the lender must approve the short sale of your home before the transaction can close.
The process isn't quick since the lender must prove that a short sale makes the most sense for your situation.
They'll do market research in your area, examine your financial situation, and prepare for the possibility of a financial loss. The short sale approval process can last anywhere from a few months to more than a year in rare cases.
There's no guarantee your lender will approve a short sale, but if you do get the opportunity to short sale your home, take it. Doing so creates a triple win for the buyer, seller, and lender.
Short Sale vs Foreclosure
There's never a good time to lose your home. Once your mortgage becomes unaffordable, the most empowering thing you can do is create a strategy to minimize financial loss and future financial damage.
There's an opportunity for a fresh start if you choose a short sale over a foreclosure. Here are four ways short sales are more beneficial than foreclosure.
Foreclosures hit your credit score much harder than a short sale. By the time your lender decides to foreclose on your home, you've likely missed probably four months of payments.
Each month you miss your mortgage payment is a hit to your credit score. Once the lender decides to foreclose the property, your credit score is hit again once the foreclosure sale is reported to the credit bureaus. Short Sales, alternatively, are not necessarily reported to the credit bureau as a “short sale.” Generally, the short sale transaction is reported as payment in full for less than the full amount owed. This type of reporting drops a credit rating less than the report of a foreclosure.
Further, lenders may or may not report your late payments during this process. This improves your chances of maintaining a decent credit rating while you await short sale approval.
Once the short sale happens, there will be a drop in your credit score because you didn't meet your full mortgage obligation, but the difference between walking away from your financial obligation and trying to work it out with the lender is huge.
It speaks volumes on your credit report to future creditors. For this reason, many homeowners are able to financially recover sooner from a short sale than they are from a foreclosure.
As mentioned above, if your home is foreclosed, the difference between what the home sells for at the foreclosure sale and the amount owed on the mortgage is called the deficiency. In Missouri, a lender may then file a lawsuit called Suit on Note, suing you personally for that deficiency and then garnishing your wages or levying your bank account. In a short sale the deficiency is part of the negotiation process and the goal is to limit or completely eliminate the deficiency a borrower would owe.
Opportunity to Buy Again
Your credit rating won't usually drop as low with a short sale as it will following a foreclosure. This gives you the opportunity to buy a home again much faster.
Foreclosures remain on your credit report for 7 years which could impact your ability to qualify for a mortgage.
There are some circumstances where homeowners can buy again relatively quickly depending on their financial circumstances. This is a major benefit if you're looking to find stability for your family quickly after losing your home.
How to Improve Your Chances of Short Selling
Choosing short sale vs foreclosure gives you more control over your financial future. A short sale is one of the easiest ways to walk away from a bad financial situation with a fresh start and less damage to your credit rating.
Is there a way to improve your chances of getting approved for a short sale? Yes, start early and retain a professional that knows what they are doing – WHICH IS NOT SOMEONE THAT IS TRYING TO BUY YOUR HOME FOR INVESTMENT PUPOSES.
You'll need to prove you're in financial distress and that selling the home at a loss is in the lender's best interest. Each lender has its own team of professionals to come out and determine the condition and market value of your home.
The biggest impact you can make is following carefully and responding quickly to the advice you receive from someone who has extensive short sale experience. Since the process already takes a long time, you don't want to add more delays by having to look for financial records to prove hardship.
For more information on real estate law, contact us to set up a consultation today.