How to Short Sale and Help Stop Foreclosure in Kitsap County

A short sale is when a bank or mortgage company accepts less than the balance of a loan as full pay off.

Loans without payments are very bad business for lenders. These "non-performing" assets cripple the financial institutions ability to operate due to several key factors.

1. FDIC regulations require the lender to have $0.50 in reserve for every $1.00 they lend. So for a $100,000 loan, the lender actually has $150,000 tied up.

2. When a loan is not performing this becomes even worse, because for every dollar in bad loans, the lending institution is restricted from borrowing (and subsequently lending) 5-8 times that amount. So for the $100,000 non-performer they are losing $500,000 - $800,000 worth of revenue, not to mention the interest earned on that money.
3. Attorney fees and the foreclosure process are expensive for the lender costing as much as $10,000 for each property

So long story short, a short sale can eliminate non-performing assets from the lender's portfolio as quick as the lender can process it and the lender looses much less skin that going through the foreclosure process. That being said it can take anywhere from a few weeks to several months.

First and foremost short sales are typically only approved for properties and homeowners in a particular situation, they have to draw the line somewhere. There are a few very basic guidelines that the lender uses to see if a property fits the bill. The homeowner is typically behind on payments, often due to some type of hardship (i.e. lost their job, medical bills, death in the family, etc.) and can't catch up, and the property's fair market value is at or below the loan balance. Every situation is different, but especially with the current market, lenders are considering loans on a case by case basis. As a rule of thumb though, if you said yes to at least 2 of the bold situations above you pass the first test.

The biggest advantage to doing a short sale is that it does not typically affect ones credit as much as a foreclosure would. The act of requesting a short sale is viewed by the credit industry as a proactive measure to ratify the situation before it gets too bad, and as such it can help a great deal as a homeowner improves their financial situation and prepares to own a home again. How the lender reports the settlement of the loan is what matter though. The person doing the short sale negotiation must ensure that it reported such that "a debt is satisfied". Otherwise your credit report could say, "settled for less than the full balance."

However, it must be said that this is dependent on how the lender views the resolution of the transaction. For example say a homeowner owes $100,000 on a property, and the lender accepts $90,000 as full payoff. The lender can sue the homeowner for the $10,000 difference, which they most likely do not have since they're in this situation in the first place. Since the homeowner cannot pay, a deficiency judgment would appear on their credit report indicating the unpaid debt. While this is a possibility, it has become uncommon as the housing market has tanked and more people are facing foreclosure.

Most often the bank chooses not to sue, opting rather to write-off the loss ($600 or more) to Uncle Sam. In this case there's no deficiency judgment, however, the lender will send an IRS Form1099-C (Cancellation of Debt) to the homeowner by January 31 of that tax year. The 1099-C indicates the $10,000 that the homeowner did not have to pay, but is now considered by the IRS to be taxable income and the homeowner will be required to pay taxes on it.

Now I'm sure this all sounds like doom and gloom, but rest assured there is a silver lining and it goes by the name of The Mortgage Debt Relief Act of 2007 (or view IRS overview brochure here). This program allows homeowners whose mortgage debt (up to $2 million, $1 million for a married person filing a separate return) was partly or entirely forgiven to claim special tax relief by filling out Form 982 (Reduction of Tax Attributes Due to Discharge of Indebtedness) and attaching it to their federal income tax return to exclude the debt as taxable income. The exclusion is applicable to forgiven or canceled debt used to buy, build or substantially improve a principal residence or to refinance debt incurred for those purposes.

As to whether a 1099-C is given rather than the lender sues is largely dependent on the way the short sale negotiation is handled and ensuring the proper steps are taken if the short sale is approved.

With all that said, it is critical that you seek professional tax advice. Use the above as a guide to know whether the professional you are considering is right for you.

The process can be broken down to 5 steps.

1. Buyer Makes an Offer - A buyer submits an offer on the house that is less that the payoff of the loan. Normally this would be a deal breaker since the homeowner would have to make up the difference between the buyers offer and the loan balance. This is where the short sale comes in to request the lender to accept the "shorted" offer and consider the loan paid in full. The caveat of course is that this is and $0 net deal for the seller, and while this is certainly not ideal it is far better than foreclosure.


2. Short Sale Package Compiled and Sent to Lender - In order for the lender to even consider a short sale a very specific package of paperwork must be put together in a very particular was and sent to a very specific department. Contacting the normal customer service department will not do and often they are clueless as to who exactly to sent the package to. If even one document is missing or out of place the package will get dropped and no notice sent to the homeowner to ratify the errors. It is not to say that they don't want to help, but the added difficulty of getting to the right person does a very good job of ensuring only those who really need to take advantage of this service and are persistent succeed. After all the lender is in the business of making money and their best shot at that is when mortgages are being paid.


3. Lender Reviews Property Information - The Loss Mitigation Department conducts a preliminary review of the property and your situation. If all paperwork is in order and the offer is withing reason a Negociator will be assigned to handle the specifica. An apprasal or a broker price opinion (BPO) will be ordered to get an idea of the fair market value (FMV) of the house. This valuation is crucial, as it will play a large part in the assesment by the Negociator. Once the Negociator ensures the basic requirement are met they will submit the offer to the investor for approval.


4. Approval/ Rejection Notification - After the lender and investor review, they determine whether it is sound for the lendingt institution to take the loss. Notification will be given, and if the offer is approved it is key that the homeowner or their representative gets written confirmation. Verbal notification is not sufficient and will not hold up if there is any question reguarding the approval.


5. Closing - Homeowner closes on the property with the new buyer and ensures 1099-C and Form 982 are properly file.

Information is great ... if you do something with it. You can tackle this on your own. There are several good forums out there to help guide the way. The learning curve is very steep, as time is of the essence and there is a lot to learn. Some real estate agent can be a big help, however due to the fact that there is no equity in the deal Another option is to work with a private investor who specializes in short sales. They are well versed in the process and often have made connections with key people at the lending institutions, both of which are vital to a successful negotiation. If you live in Kitsap County or the surrounding area we would love to help you and we provide free consultation and no fee short sale negotiation (www.centennialsolutions.com).

Whether you do it your self or utilize professional help, act quickly.When the foreclosure process starts it is difficult to stop and impossible to reverse.