How to Make Money Flipping a Short Sale

How to Invest in Short Sales

Young couple in new, empty home sitting on floor discussing improvements
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Buying short sales has been a hot topic in real estate circles since the Great Recession when many homeowners found that they owed more on their mortgages than their properties were worth. Many eager entrepreneurs have tried to find ways to profit from short sales since they came into vogue, only to end up breaking the law.

You can legally flip a short sale, however, if you understand and stay within the rules. And you can make some money if you do it right.

The Short Sale Process

The short sale process begins when homeowner applies to their lender to allow one. The homeowner must submit financial documentation, such as tax returns and pay stubs, to prove that they can't make mortgage payments due to some hardship.

The lender—not the homeowner—will receive the offers made on the property if it approves the short sale and after the home is listed. The lender will accept or reject offers or make counteroffers.

Illegal Tactics

A large number of companies that appear online insist that homeowners deed their properties to a company or a holding company. That company then negotiates with the bank. Most of them do not comply with federal and state disclosure laws.

Other companies will try to make themselves the middleman by double-escrowing the sale. They'll arrange to buy the home from the seller, and they also demand to handle all the negotiations with the seller's bank. That alone should wave a huge red flag, and most banks require an arm's length affidavit to prevent it.

Arm's Length Affidavits

An arm's length affidavit is a sworn statement made by the buyer stating that they do not have an existing relationship with the owner of the property. It covers familial relationships, casual friendships, and yes, business or financial relationships.

All short sales made under the Home Affordable Foreclosure Alternatives (HAFA) program require arm's length affidavits.

Many of these affidavits include clauses specifically attesting that the buyer has made no agreements or arrangements with the seller regarding disposition of the property or the proceeds after purchase. The buyer won't kick back any funds to the homeowner or sell the property back to them.

Factors of Timing

Some lenders also require buyers of short sale properties to sign an agreement not to sell the property within a certain period of time after closing. This time limit is typically 30 to 60 days. The HAFA short sale program prohibits the resale or flip of any property you buy as a short sale for a certain period of time.

Many banks will present you with a restrictive agreement even in a traditional short sale situation, preventing an immediate resale.

As a practical matter, however, you'd ordinarily want to make a few repairs to the flipper short sale right after closing because these properties are sold in "as is" condition. These repairs might take a few weeks to a month or more, and you wouldn't be listing or selling the property during this period anyway.

Then your closing period could take another 30 to 45 days after a buyer makes an offer and enters into escrow. Again, the timing restriction might not be much of an inconvenience.

Preapproved HAFA Short Sales

The bank has already established the price for the short sale in a preapproved HAFA sale. Many banks will hire an agent to produce a fast and cheap appraisal called a BPO and to arrive at this number.

It's not unusual for a preapproved HAFA short sale to be listed under market value. These deals can be real gems for short sale investors.

Look for Long Days on Market

The idea is to buy low and sell high, so you obviously want to pay as little as possible. The bank might be more willing to wheel and deal if the home has been on the market for a considerable time. It really doesn't want to hold onto the property and maintain its cost forever.

Target Homes in Foreclosure Near Auction

It costs banks money to foreclose, and they'll usually make more doing a short sale than forcing a foreclosure. Banks will sometimes make last-minute deals and postpone the auction if the date for the trustee's foreclosure sale is very close.

These last-minute deals can be very profitable for investors.

Buy a Short Sale Fixer Home

Banks typically won't make any repairs or authorize the seller to make repairs to a short sale home. The bank rarely sends a contractor to inspect the home and instead relies on the BPO agent's report.

But BPO agents aren't general contractors. The BPO might significantly inflate the amount of money it will take to fix up the home, so consider submitting repair bids with your short sale offer. 

The bank will want to know what's wrong the home and how much it will cost to fix it, even though it won't allow repairs. It will then set value based on this information.

The bank will choose the lowest bid, so make sure the lowest is one from which you can make money before buying the property.

Show the Home for Rent Upon Approval 

The seller owns the home, not the bank, so you might be able to get written permission to show the property to prospective tenants after the bank issues its short sale approval letter. A tenant could be ready to move into the home the day it closes.

Rent is paid in advance, so your first mortgage payment wouldn't be due for at least 30 days or more.