The Art Of The Strategic Short Sale
A client of mine called me this week to ask me the definition of a short sale. I happen to run across this explanation of a Strategic Short Sale by a great broker from California, Daniel Dima Batsalkin, and thought it was a great primer!
If you've been following the real estate market over the last few years, you probably already know what a short sale is. Just in case you don't, it's essentially a situation where the proceeds from the sale of real estate are insufficient to cover the existing loans encumbering the property and pay all selling expenses.
A typical short sale also involves some sort of owner hardship situation. For example, the owner lost his job, had a medical issue, his ARM loan adjusted and his payment skyrocketed, etc. You get the idea.
Starting around the middle of last year, I began seeing a new form of short sale ... the STRATEGIC SHORT SALE.
Just what is a strategic short sale, you ask?
A strategic short sale is a situation where the owner is able to continue making payments on the loan(s) and is often times current on the payments, but is upside-down on the property and wants or needs to unload it. There may be a slight or severe hardship, or no hardship at all.
In a strategic short sale, the homeowner is essentially making a business decision to sacrifice a derogatory remark on credit and some other possible negative outcomes to get an upside down property off his books and decrease his debt load.
Let me give you a real life example. I have a client who is a physician and makes a good, stable income. During the explosive market in the past decade, he purchased three single family homes as investments using 100% financing and initial teaser rates on the loans. Sounds pretty common, right?
He leased the properties out and had positive cash flow. His plan was to improve these properties and sell them at a large profit. Everyone knows what happened next. The market plummeted, his rates adjusted, the rental market is down and he is now cash flow negative on these properties. He is current on the payments, has great credit and plenty of money in savings.
This client can technically afford to continue making the payments and may be able to ride it out. However, he is upside down on all of these homes.
What should the client do?
OPTION 1. Continue paying the shortage every month and slowly deplete his savings while waiting for a turnaround of the market.
OPTION 2. Sell the homes at a loss and cover the shortage out of his savings.
OPTION 3. Sell the homes as short sales.
If you selected OPTION 3, you've entered the world of the strategic short sale.
Now you may be wondering, what are the drawbacks and disadvantages of a strategic short sale?
There are three.
First, the lender may ask for an owner contribution to approve the short sale. Lenders are asking for this more frequently from borrowers who they (the lender) think can afford it.
Second, the homeowner will take a credit hit. The short sale will be reported as 'settled for less than full balance' or a similar remark and this will lower the homeowner's credit score. How much credit will be affected is a case-by-case scenario and depends upon a multitude of factors that I'm not going to cover here. Suffice it to say that credit will take a hit.
Third, there may be certain tax consequences to the forgiven debt. The general rule here is that debt forgiven on a principal residence will not be taxable, but I'm not a tax professional and I won't get into those issues here.
It also takes an experienced real estate agent who specializes in these types of transactions to get the short sale approved.
If you would like to learn more about short sales feel free to contact me.
About The Author:
This information is provided compliments of Betsy Schuman Dodek of Washington Fine Properties. Betsy is a native Washingtonian and a resident of the Luxmanor Community in North Bethesda. Betsy, along with her partner Marsha Schuman, specialize in servicing the luxury home market in NW Washington as well as Suburban Maryland including the neighborhoods in Chevy Chase, Bethesda, North Bethesda, Potomac, Rockville and Kensington. They have worked with numerous professionals, business owners, and executives who are relocating to and from Washington, DC and Suburban Maryland. They enjoy working with first-time buyers as well.
If you are looking to buy or sell real estate in the District of Columbia or Suburban Maryland, please contact the Schuman Team at 301-996-8700.