Short Sales Can Offer Underwater Homeowners Thousands to Start Fresh

By David Elton, Elton Realty, LLC

How far would $13,427.00 go toward helping get your life back on track? 

My client Jerry, mid-40’s, recently divorced with child shares a familiar experience.  A mortgage broker since the early nineties, he had accumulated a couple investment properties plus a personal home.  By June 2005, the skyrocketing Phoenix real estate market had made him, like many Americans, a ‘paper millionaire.’

Of course just as Jerry had allowed himself to think, ‘Gee, I’m sort of set,’ the market imploded.   Home values plunged.  His mortgage business tanked.   In an effort to ride out storm he refinanced his properties and tapped some much-needed working capital (remaining equity).  By June of 2010, interest rates on Jerry’s adjustable rate mortgages had leapt much higher.

He spent the next two years trying to loan modify his personal home to no avail.  In fact, the process brought him face to face with a few dark realities of the heretofore modification process:

1.  Lenders show little interest/incentive to modify your loan.  A quick check of the latest statistics on the HAMP (Home Affordable Modification Program) website, even after a much publicized improved streamlined process, indicate a whopping 68% of loan mods fail.  It seems banks would rather write the loan off while they can still get benefits from the government to do so or simply take the accounting charge and move on.  

2.  The loan modification process is a good way to lose your home to foreclosure. You see, while you’re busy navigating the interminable trail of forms, personnel and delays, the foreclosure clock keeps ticking. (Even after you resume making ‘modified’ payments as ordered by the bank WHILE they continue to process your application.) Luckily Jerry pulled the plug before things went that far.

By October of 2011, it wasn’t about numbers anymore.  It was, as with many of us, about survival.  Jerry’s two rental properties were weeks away from foreclosure along with his still unmodified personal home.  On the verge of filing bankruptcy, we set a time to discuss options.  BK would clear his debts yes, but also severely limit anything else he could do investment wise for at least seven years.

Jerry had also heard he could simply ‘mail the keys’ back to the banks without any liability because the laws here in Arizona supposedly protected him from banks pursuing any outstanding debt balances.

Not necessarily true.  In Arizona we have something called ‘anti-deficiency statutes’ which protect homeowners (whose properties qualify) from being responsible for the outstanding remaining loan balance (aka the deficiency) in the event they let their homes go to foreclosure.  Loans used to purchase qualifying properties are covered.   However, what many do not realize is that loans such as Refinances or Home Equity Lines of Credit (HELOCS) taken out AFTER the initial purchase are not covered.  Thus, these lenders typically have recourse to pursue any deficiency judgments against homeowners in the event the property goes to Trustee sale. 

Banks Prefer Short Sales Vs Foreclosure And Underwater Sellers Should Too

The Government has incentivized banks to perform short sales and the banks in turn are passing some of those funds on to struggling homeowners i.e. Bank of America offering $5000 to $30,000 for relocation assistance to sellers approved under their short sale program.  We have seen Chase offering up to $35,000.  

According to the Cromford Report, the Arizona State University based real estate statistic center, total REO inventory of residential properties in Maricopa County are down a whopping 72% from their peak in October 2010 while Short Sale volume has about doubled since June of 2011.

There are many good reasons for that and on one hot monsoony night at a Starbucks just North of the 101 and Tatum, Jerry and I had ‘the talk’ about how best to handle his situation. 

We had three properties to deal with and foreclosure dates looming on all. He had refinanced his properties so ‘mailing keys’ back could expose him as the lenders still had recourse to pursue a deficiency balance.

The properties all had HELOC loans on them as well.  More recourse.

The first step was to get the Foreclosure/Trustee sale dates postponed which we did once we had accepted offers.  This is typical of the short sale process. One cannot typically obtain extensions without submitting an offer.  Jerry’s personal home actually needed two postponements.  In the end, here’s how it all shook out:

 

Investment Property #1

262,000 – negotiated deficiency balance waiver by 1^st lien holder.

30,000 HELOC – Negotiated deficiency balance waiver in exchange for cash settlement of 7000.   3000 of which paid by 1^st lien holder, 4000 paid by Buyer.

Investment Property #2

189,000 Deficiency balance waived by 1^st lien holder

18,000 HELOC – Deficiency balance waived in exchange cash settlement of 3000.   1800 paid by 1^st lien holder, 1200 paid by Buyer.

Personal Home

365,000 deficiency balance waived by 1^st lien holder.

40,000 HELOC – In exchange for waiving deficiency balance a one-time 8000 cash settlement was negotiated.  (2^nd lien holders will also consider promissory notes which span longer periods and are more money to settle)

4000 came from the 1^st lien holder.   3000 came from the Buyer.

1000 came from the Seller/Jerry 
 

$0 = Tax on 365,000 waived deficiency balance.  Due to the 2007 Mortgage Tax Relief Act – there is currently no tax event on forgiven deficiency balances for short sold primary residences. This is another huge advantage to doing the short sale vs allowing the home to go to foreclosure.

NOTE – Unless extended, this Act is due to expire at the end of 2012.   On Jerry’s investment properties, he could be subject to a 1099-c.  (IRS can pursue 1099-c whether the investment property is allowed to go to foreclosure or not)  In terms our investment clients, some have received them, many have not.  

Payoff Received!

$13,427.00 – short sale check to Jerry courtesy of new Bank of America short sale incentive program for relocation expenses.  Not sure why the odd amount.  One can only assume an obscure bank formula. (Jerry used 1000 of this to pay his share of the Seller contribution to the 2^nd lien holder.)

Net Expenses to Short Sale All 3 properties

$0 - All real estate commissions, title and escrow fees and taxes were covered by the 1^st lien holder. (Jerry did need to continue making some HOA payments.) Banks may cover some HOA expense, but that is certainly not guaranteed and varies bank to bank.  As a general rule, Short sale sellers should continue HOA payments for the duration of the transaction.

Totals

816,000 worth of loan deficiency balances waived.  As discussed, since his properties were refinanced, Arizona’s anti-deficiency statutes did NOT protect Jerry. If he had let these properties go back to the bank, he could have been exposed to a deficiency judgment.

88,000 in HELOC loans were negotiated and settled with deficiency balances waived for 14000.   Of that, Buyers paid 13000 and 1000 came from Jerry (thru his B of A relocation funds check)

Lets take a step back and really consider this scenario for moment.  Through the short sale process, Jerry was able to reduce close to $1,000,000 in debt obligation to $0 and get paid $13,427 to do it! 

The trade-off.  Though loan programs are constantly changing, as of now Jerry will be unable to obtain conventional financing for two years from the date of his last closing.  If he remains current on his other bills, his credit score should jump back above 700 within 6-9 months or so. 

First and most important, when considering a short sale use an agent with a vast amount of short sale experience.   You definitely do not want a ‘friend or neighbor’ overseeing the many varied aspects of a short sale.  There can be negative repercussions, especially if they are mishandled.  That said – when done correctly and successfully, you get what our client Jerry experienced.  No more debt obligation, thousands in relocation assistance funds and a fresh start.  That’s the goal we set for all of our short sale clients, which is about the best you can hope for in these brutal economic times. 

Disclaimer:  This article is presented for general informational purposes only.  Every short sale is unique and impact on sellers’ financial condition will vary depending upon each individual situation. Results cannot be guaranteed.  The author is not qualified to give Tax or Legal or Credit or Financial advice.  It is strongly recommended the Reader verify all information herein with a professional/expert, including, but not limited to, certified public accountants, tax advisors, real estate, bankruptcy or tax attorneys and licensed mortgage brokers, to review the ramifications and potential liability prior to entering into a Short Sale, Deed-In-Lieu-Of-Foreclosure, Foreclosure or Bankruptcy.  The author is based in Arizona and much of the information, while general in nature, likely applies more directly to Arizona than other states. 

If you have questions about short sales, please call me for a no-obligation consultation tailored to your specific situation at 480-226-3711 or email davidelton@cox.net or visit eltonrealty.com.  Thank-you.