The information in this primer will help you understand the short sale and how you can prepare for this transaction even before you begin the escrow process.
What is a Short Sale?
This term refers to a transaction in which the sales price will not generate enough money to cover the payoff of the Seller’s existing loan and closing costs. Working with a willing Lender, a Seller may be able to negotiate a payoff amount which is less than the actual amount that would ordinarily be required to payoff the loan. The lender agrees to accept the equity available in the property, and the Seller receives no proceeds from the sale of the property.
Why would a Lender or Seller find a Short Sale appealing?
Homeowners may benefit by avoiding the long-term negative consequences to their credit which are associated with a foreclosure. Lenders benefit because they can avoid the substantial expense of a foreclosure proceeding. Most lenders do not want to own the properties used as collateral for their loans, because the maintenance costs and taxes add to their cost and decrease profitability.
What are the First Steps?
- The agent and Seller can start by having an extensive, truthful discussion about the Seller’s financial status. People who are in financial trouble may be hesitant to discuss the details of their unfavorable situation, but honesty and full disclosure are essential to the successful closing of a short sale transaction.
- The Seller can contact the Lender to find out whether the Lender is willing to consider a short payoff arrangement. The process of convincing a Lender to reduce its loan balance to close the transaction is often challenging, requiring the negotiating skills of a seasoned agent. Be mindful of the additional work that short sales require of both the agent and the Seller.
- Ask your Escrow Officer to prepare a “net sheet” as soon as possible and update it regularly as information becomes available. This is a detailed estimated statement of the payoffs and closing costs that will be charged to the Seller at close of escrow.
Working with the Lender
Determine the Lender’s guidelines. You can anticipate a very specific list of required documentation that begins with a copy of the Listing Agreement or some other form of written authorization from the Seller. Additional requirements may include:
- Strong evidence of financial hardship to the Lender
- Pay stubs or other proof of current income flow
- 2 years of Tax Returns and W-2’s
- Latest personal checking account statement
- Copies of all past due secured and unsecured debt notices
- Copies of the latest mortgage statement
- Copy of the current tax bill
- Copy of a current appraisal, including comparable sales in the area
- Copy of the Purchase Agreement
An experienced real estate agent can assist the Seller in gathering these documents and satisfying the Lender’s requirements.
What happens in escrow?
The short payoff is a condition of closing that must be set out in the Purchase Agreement. When the Lender’s payoff demand is received in escrow, it is likely to include restrictions on closing costs and the payoff amounts to other lenders and creditors. Take care to include every possible expense in the Seller’s “net sheet”, and be aware of the “bottom line” as the process unfolds. Remember that the Lender may establish a minimum payoff figure which it is prepared to accept, and its willingness to adjust that final figure may vary. Your Escrow Officer will report the estimated settlement figures during the escrow process and comply with the short payoff Lender’s requirements.
Your Escrow Officer will fulfill the important role of reporting the numbers and complying with the short payoff Lender’s requirements. If you have been working with your Escrow Officer to generate preliminary “net sheets” for the Lender, then the Escrow Officer will be anticipating the requirements of these unique transactions and will be able to monitor the transaction to a successful conclusion.
Note: The information is intended to present general guidelines and is not a substitute for personalized financial advice. Always consult with a tax advisor or legal counsel before entering a Short Sale transaction.