Short sales don't benefit the homeowner

When your home goes into foreclosure, you are going to be contacted by short sale “specialists” who will make all sorts of claims about being able to get you out from under this foreclosure. Beware.

I know a woman who is in foreclosure. She’s divorced from her husband, and she got the house in the divorce. What a prize – she got the house that was already in foreclosure with a mortgage payment that was far too high to begin with when two people were paying it, never mind when she alone was going to have to pay the mortgage. Anyway, both the husband and the wife have moved on to new relationships, and the wife really didn’t want to do anything to save the house. The amount owed on the mortgage was more than the house was worth, and there were so many bad memories in that house that it wasn’t worth saving. So she did what most people do when they face foreclosure – nothing.

Eventually, the inevitable happened, and a foreclosure auction was scheduled. Then came the short sale people.

What’s a short sale anyway? It’s when the bank agrees to take less than what it is owed in full satisfaction of a loan. For example, your house is worth $400,000, but you owe $500,000 on your mortgage after being in foreclosure for a while. You try to market your property for sale at $500,000, but only get offers for $400,000. You would apply to the bank for a short sale, asking that the bank take the $400,000 and satisfy the loan. The bank would agree to do this for a few reasons. First, if the property is truly worth only $400,000, that’s all that they can hope to get for it after the foreclosure auction. However, the bank will have to wait another 18 months and spend another $25,000 in legal fees and costs to get to the foreclosure auction. The bank may opt to save the time and legal fees and just take less money now.

Anyway, back to this woman I know. She was listening to these short sale people (as much as I told her not to) because there was something in her divorce agreement that required her and her husband to try to resolve the foreclosure. The short sale “specialist” told her that she had to try to sell this property at a short sale pursuant to her divorce agreement. The divorce was (and is) messy, and the wife didn’t want to get dragged back into divorce court for violating her divorce agreement, so she reluctantly agreed to allow the short sale specialists to market the property. They claimed that there was a lot of interest for the house.

Here’s the thing. Short sales don’t benefit people in foreclosure. They just don’t. The short sale “specialists” are the kinds of sharks that I’ve written about in this space before. They prey on people who are down on their luck and don’t know much about the foreclosure process or about real estate in general. They try to buy property at a low value by convincing banks that the property is worth less than market value, then they give the property a face lift and sell it for the real market value. They make a few bucks and do it over again. The short sale purchasers and the short sale brokers are the only people making money here.

As a homeowner in foreclosure, it might actually hurt you more if you do a short sale. That’s because the bank is taking less than what you owe them in full satisfaction of the loan. Back to my example from above where you owe $500,000 but the bank takes $400,000 – that’s a net benefit of $100,000 to you. You know who cares about that benefit? You guessed it – the IRS cares about that. They’re going to call that $100,000 income and want you to pay taxes on it. There used to be a provision exempting people from paying taxes on short sale “windfalls,” but that loophole has been closed.

Your credit is already shot. You already owe the bank more than the property is worth. You’re not getting any equity from selling the property and you’re not expediting your credit recovery. Don’t let someone else make a profit off of your misfortune.