Why You Should Be Wary of Short Sales
Short sales happen when home values fall, and sellers do not receive enough cash from a buyer to pay off their mortgages. A short sale can only happen if the lender agrees to accept less than what's owed.
Short Sales Don't Mean Discount
On the surface, it may appear that a short-sale buyer is getting a good deal. Although a slim margin of short sales may be profitable for a buyer—there are always exceptions—a buyer is usually better off purchasing a home that is not in default. Short sales are not sold at discounts.
Few real estate professionals will dissuade you from buying a short sale. In part, that's because real estate professionals profit on a short sale. Everybody makes money except the sellers and buyers. Realize, too, that listing agents might push sellers to list as a short sale because if the sellers went through foreclosure, the listing agents would not get the listing.
Any real estate professional who has been burned by a short sale that fell apart will steer their buyers elsewhere.
Why Buyers Might Not Want to Buy a Short Sale
Here's what can make a short sale unattractive:
- Sellers paid too much: If a home sold for $500,000 a few years ago and is now for sale at $400,000, that doesn't mean the buyer is picking up $100,000 of equity for free. It means the seller paid too much in a rising market and now the market has fallen. This means the seller has no equity.
- Sellers borrowed too much: Banks that were eager to lend money in appreciating markets sometimes allowed borrowers to over-mortgage the home, meaning the borrower's loan balance exceeded the value of the property. Appraisals are subjective, and not all appraisers will place the same value on a home. Although it's against the law, some appraisers are pressured by banks to appraise at the amount the homeowner wants to borrow.
- Stringent qualifications: Inexperienced or unethical real estate agents might push a seller into considering a short sale when the seller does not qualify for a short sale. Sellers must prove a hardship and submit evidence of the hardship to the lender for approval. Some agents list homes as short sales without ever talking to the lenders or pre-qualifying the sellers.
- Homes sell at market value: Lenders aren't naive or unaware of the value of a home. Lenders will insist on a comparative market analysis, known as a CMA, or broker price opinion, known as a BPO. If a lender believes a better price can be obtained by taking the property in foreclosure over a short-sale offer, the lender may hold out for a higher price. That price will be close to market value. Lenders accept short sales when the home is worth the short-sale price, which means market value.
- Homes sell "As Is": If a mortgage company agrees to a short sale, it is most likely also paying the closing costs in the transaction. Lenders ask buyers to purchase the home in its present condition. Lenders typically will refuse to pay for suggested repairs disclosed on a home inspection. This includes work to clear a pest report, roof repairs, other deferred maintenance, and home protection for the buyer.
- Length of time to close: It could take anywhere from 2 weeks to 2 months to get a response on a purchase offer from a lender. It depends on when the Notice of Default was filed, the lender's backlog of foreclosures, and how much paperwork the seller has already submitted. If two lenders are involved because of two loans secured to the property, it could take even longer to satisfy the demands of the second lender.
- Lenders can change conditions: Some lenders reserve the right to renegotiate the terms of the short sale at the last minute. If the market changes, new laws pass, or new information crosses the lender's desk, the lender can attempt to change the terms of the contract. Lenders generally have lawyers at their disposal, and ordinary buyers do not.
- Lenders discount commission: Lenders who have sold loans to Fannie Mae or Freddie Mac generally pay traditional real estate commissions to real estate agents. Others may demand a discount. Moreover, agents end up doing two to three times the work of a conventional transaction and don't appreciate getting paid less to do more work. If you have agreed to pay your agent a certain percentage under a buyer's broker agreement, you could be liable for the difference between what the lender will pay and what your contract stipulates—if your agent refuses to waive the difference.
- Higher buyer closing costs: Because lenders rarely will pay for any extras, like a seller would be willing to do, if you want any of those extras, you will pay for them yourself. Sometimes lenders will refuse to pay for standard seller closing costs such as transfer taxes, too. If you want specific inspections, you will probably pay for them out-of-pocket.
- Lose control of transaction: If you need to close escrow by a specific date, don't count on it. A short sale home closing process takes an indefinite amount of time. The seller's lender calls the shots, not the buyer nor the buyer's lender. If you are trying to close escrow concurrently with the sale of your home, it might not happen.
- Little seller motivation: When the seller discovers the short sale negative effect on credit is close to that of a foreclosure, there is little incentive for a seller to cooperate with a short sale. Although sellers may qualify to buy another home in 2 years after a short sale versus 5 (with restrictions) on a foreclosure, some have no intention of ever buying another home again.