Real Estate Information Archive

Answer: In some areas of the country, and from time to time, real estate values decline.

In such situations it sometimes happens that owners need to move but the value of the mortgage is greater than the value of the property. The owner is said to be financially "upside down."

If the property is sold at a loss, the owner is still responsible for repaying the entire mortgage nationally (a purchase money mortgage in California may be an exception -- see an attorney for details). But, sometimes owners do not have enough cash to re-pay the loan and so they try to work out a deal with the lender to pay less than is owed -- a short sale.

The lender, of course, wants back every dime loaned to the borrower. That was the deal. And lenders point out, properly, that if the value of the property rose the borrower would not turn around and be required to offer some of that profit to the mortgage company.

Lenders will sometimes allow a short sale if it is a better alternative than a foreclosure sale in a down market. However, before making such a decision, a lender will want to see how such a deal can be structured. Perhaps the borrower has other assets, or perhaps the short-fall can be made up with a note to the lender.

If the lender takes a loss, that loss may be reported to the IRS as income to the borrower -- money not actually received by the borrower, but money that is taxable.

In the event that a borrower faces a short-sale situation, the best approach is to have an attorney contact the lender on your behalf. It may be possible to work out a different monthly payment, an interest rate lowered to current levels, a long extension, etc.  

See a tax professional and realty attorney for details before making any decisions.

Some of the more difficult listing appointments our group encounters these days are ones that involve short sale conditions. In this situation, the seller owes more on the property than what it is worth in the current market.

A year or so ago, we were having to explain how short sales worked to anguished sellers. These days, sellers call us, say they are underwater with their mortgages, and ask if we can help get them out from under crushing and/or mounting debt. And contrary to popular belief, short sales are not only occurring in condo conversions and lower end properties, but in the luxury home market as well.

How and why do short sales present such potential for real estate investors and home buyers? Most short sales situations we encounter in San Bernardino county involve homes that were purchased in the last two years with 100 percent financing, or homes that had been refinanced—often a number of times. Many of these properties are also encumbered with Option ARM mortgages, whose rates have reset to unaffordable rates and may have negative amortization. 

No well-advised buyer would pay an inflated price for a home to accommodate a home seller’s inflated mortgage debt.

In fact, we routinely check the outstanding mortgage debt on properties we show to home buying clients to check short sale potential. Many buyers don’t want to go through the protracted hassle of waiting for lenders to respond to offers. Others are willing to trade time for opportunity. Regardless, we feel compelled to advise buyers of the possibility.

It may be anecdotal evidence, but we seem to be encountering more homes at the low end of the luxury market that will likely be sold under short sale conditions. In the San Bernardino market, many of these properties are newer tract homes that are in the $500,000 to $1,000,000 These sellers have also had the added burden of having to compete with builder’s inventory that is/was being sold with ultra-generous incentives.  

And what does the near-term future hold for short sales in the luxury home market? Difficulties will arise with some of the luxury home purchases and refinances that were accomplished with Option ARMs and their “teaser” entry rates. A million dollar mortgage that originated 30 months ago and had payments starting around $2600 per month could now be readjusting to just under $7000 per month. And refinancing out of these products is often daunting, because of hefty prepayment penalties.   

It is a story that is still under development.  – Roberta Murphy