If you have to sell your home for one reason or another but you owe more on it than it is actually worth you may have heard that you can do a Short Sale, and when that's behind you all will be well. This is not as easy as it sounds, and as with everything else in life, there may be some serious repercussions. There are lots of variables, and getting a short sale transaction approved and closed is a very complicated matter.
Since you can't sell the property for enough money to pay off your loan (or loans if you have a second mortgage) the first person you need to be speaking with is your Lender. You begin by asking the Lender to accept less money than what they are owed. If the Lender agrees, you will be making a payoff that is short of what it should be; hence the term "short sale.
Each bank will have different criteria for how you make your appeal for them to accept less money but there are some universal requirements you can count on; brace yourself for filling out tons of forms and supplying everything from tax returns and bank statements to whatever else your Lender asks for. This alone is overwhelming and hopefully you've already surrounded yourself with some professional people who know what they are doing. The first person you need is a competent REALTOR who's done this before and knows the ropes. Trying to sell a property on your own is tough enough when there's value in it and we're in a Seller's market. In challenging times such as these, negotiating with the bank, and getting to closing on time is almost impossible if you try to go it alone.
Then you will need to consult with an attorney. Depending on where you live and other variables, after the sale is done and you've moved on, there is a possibility your Lender can sue you for a "deficiency judgment", which would be the difference between the short pay-off and the amount you actually owed the Lender. For example, if you owe the bank $350,000, sell your house for $300,000, and make a short pay-off to your Lender of $280,000 after selling expenses, the Lender may have the option to sue you for the $70,000 difference. A discussion with an attorney can fill you in on what the latest rules are and how they apply in your state.
On the other hand, the lender may decide not to sue you, and to "forgive your debt". In that case, they let you and the IRS know by sending a 1099C to you and the IRS for the $70,000 you didn't pay them. They've forgiven it and they can write it off their books, but the IRS is not quite that understanding. The forgiven debt is actually called a "cancelled debt" by the IRS and becomes "phantom income" on which you may have to pay "phantom taxes". And you'll have to pay with real money-no "phantom cash" accepted. So another friend you'll need during all this is a good tax accountant.
Here are some suggested steps to get this process started:
1. List the property with a REALTOR. Be sure that it is priced to sell.
2. Start assembling financial information such as W2's, pay stubs, bank statements, a list of assets and liabilities, and a list of monthly debts. The more you can provide the bank, the better chance you have of getting your file looked at in a reasonable amount of time. The number one cause for delay in a short sale transaction is Lenders not having enough information or incomplete packages.
3. Write a hardship letter telling the bank the reason why they should accept less money than what they're owed. Keep your letter brief, factual and as precise as possible. Explain what your hardship is, and why a short sale would benefit not only you but the bank as well.
Once you have an offer on your property, send all your documentation to the proper department as your Lender directs. This is generally known as their "Loss Mitigation" department. If your Lender accepts the offer they will send you an Approval Letter indicating the terms of the approval and the minimum payoff they are willing to accept. They may also tell you whether or not they will send you a 1099C for the deficiency, but they probably will not. It's then up to you and your REALTOR to negotiate with the buyer for the amount that the bank has approved.
If the bank comes back with "maybe" there are any number of ways the situation can go. That's where it really becomes important for you to have your REALTOR, Attorney, and Tax Consultant to advise you. Remember, the Lender wants to lose as little as possible and it's up to you and your advisors to make the best case you possibly can for them to see things your way.