By Miriam J. Baer, Assistant Director, Legal Counsel, Legal Services
In today’s economic climate, you may encounter sellers who owe more for their property than it is worth, i.e., they’re “upside down” or “under water” on their mortgage. They may have more than one mortgage, a home equity loan, outstanding judgments and tax liens that must be dealt with before selling – one or all of which exceed the value of the property.
For sellers in financial distress, a “short sale” may help. A short sale occurs when a lender accepts a discounted payoff of the loan balance and gives up its interest in the property. In some cases, the seller is relieved of further liability; in others, the seller may still be indebted to the lender for the balance.
Lenders may agree to “short sales” to avoid the expense of a foreclosure, but often impose certain conditions:
• Loan status: Usually, the loan must be in default or imminent default; sometimes being “upside down” is enough.
• Hardship: Sellers must demonstrate that circumstances beyond their control prevent them from making their mortgage payments.
• Financial Status: Sellers must demonstrate insufficient resources to cover the loan amount.
• Loan Fraud: There must be no evidence of fraud in connection with the original loan. The lender is more likely to suspect fraud if default occurs within the first 12 months of the loan term.
• Property Value: The property must be appraised to determine the amount the lender will accept.
Although the buyer and seller have a contract, the seller’s lender is in control in a short sale and can “just say no” to prevent it. Therefore, closing the sale is more uncertain than in ordinary transactions.
Listing Agent Responsibilities
Before you list a property, determine whether there is any possible need for a short sale, and be prepared to advise the seller about the process and consequences of one. While better than foreclosure, the seller’s credit record will suffer. The process can take more time and the lender can simply stop it at any time. Suggest that the seller consider other options, including loan modification, refinancing, giving the lender a deed in lieu of foreclosure, or allowing foreclosure to occur. Recommend, prior to sale, consulting with the seller’s attorney and financial and tax experts.
Consider the list price carefully: it cannot be so low that the seller’s lender will reject it or it so high that buyers will lack interest.
Remember that because funds are “short,” the seller may not be able at closing to pay third parties. Payments to lien-holders and other service providers, including yourself and maybe another broker, must be addressed. While foreclosure may wipe out some liens, a short sale requires negotiation with all lien-holders.
A short sale is a material fact. As listing broker, you must disclose this to the buyer and buyer agent.
Short Sale Addendum – Listing Contract
Address in the listing contract a seller attempt at a short sale. The North Carolina Association of REALTORS® has developed a new Short Sale Addendum to Exclusive Right to Sell Listing Agreement which:
• requires the seller to work to obtain lender approval, including providing necessary financial information; and
• allows the listing agency to market the property as a short sale or pre-foreclosure property, to continue marketing while it is under contract and the lender is considering contract approval, and to disclose information to the lender and buyer agent.
Buyer Agent Responsibilities
When looking at properties and before making an offer, try to determine whether the property may be a short sale. The listing agent should disclose it, but if you have any doubt, ask for information about the status of the seller’s loan, the possibility of a foreclosure action, and the seller’s ability to convey the property free and clear of liens.
Be particularly attentive to property value, especially in a “soft” or declining market. An asking price below the seller’s loan pay-off amount does not mean the property is worth it. Buyer agents should encourage clients to inspect the property to determine its condition, since a seller may not be financially able to make any repairs.
Some lenders in a short sale will not consider an offer until the buyer and seller have signed a contract. Make sure the buyer understands that once the contract is submitted, the lender may be slow to make a decision, require changes before approval, or even undertake foreclosure while considering it.
Short Sale Addendum – Offer
The North Carolina Association of REALTORS® has developed a Short Sale Addendum to the standard North Carolina Offer to Purchase and Contract. It includes contingencies that allow either party to cancel the deal if the lender rejects the short sale and the buyer to terminate the contract at any time prior the lender’s approval by written notice to the seller. In either event, the buyer is entitled to the return of earnest money.
The addendum permits the seller to continue marketing the property and to communicate new offers to the lender. If those offers are higher than the contract price, the lender may reject the short sale contract in favor of a new offer or foreclose instead.
Lenders are increasingly more likely to entertain the possibility of a short sale. However, because much of the decision-making rests with the seller’s lender, such transactions entail significant risk, particularly for the buyer. Brokers should be certain to disclose to the buyer prior to contract if a short sale is necessary to accomplish the deal, use the standard addenda or have contract language drafted to specifically address the short sale, and allow plenty of time for the transaction to close.
This article came from the May 2009-Vol40-1 edition of the bulletin.