This is often referred to as being “underwater” or being “upside-down” on his mortgage. In such a circumstance, the seller has to bring cash to the settlement table and/or the seller’s bank accepts less than it is owed in order to release its lien on the home. The bank’s other alternative is to foreclose on the property, which is time-consuming and expensive and often results in the bank’s reacquiring the vacant property.
The release of lien is essential for the new buyer to obtain clear title to the home. While the release allows the home to be sold, it does not necessarily relieve the seller from his obligation to pay any deficiency. A short seller has to separately negotiate and obtain no-deficiency language in writing from his lender. If a short seller has more than one mortgage, all lenders will need to approve the short sale.
From the short sale home buyer’s perspective, this third-party (lender) approval process is the major difference between a short sale and a regular sale. The short-sale home-buying process begins in the same manner as any other purchase: locating a home, determining a proposed offer price and preparing a written purchase offer.
Typically, the contract will be contingent on obtaining financing and the home being appraised for at least the agreed-upon contract price. Of course, the contract will also be contingent on the seller’s obtaining lender approval. Since the seller in a short sale is not allowed by his lender to receive any money from the proceeds of the short sale, he may not be that concerned with the purchase price. However, since his lender may come after him for a the difference between the sale price and what he owes the bank, he does have some incentive to accept the offer that generates the highest net sales proceeds to his lender.
In addition to receiving a copy of the fully signed and ratified contract, the seller’s lender will also want to know what the fair market value of the home is. Savvy real estate agents assisting short-sale buyers or sellers will prepare a comparative market analysis showing the market value of the surrounding homes that are comparable and that have sold. This analysis will demonstrate why the short-sale offer is a good price and why the lender should approve it.
Lenders will typically also obtain their own opinion from an independent real estate agent. The lender will also insist that the seller provide all of his financial materials, just as if he were applying for a new loan. That way the lender can determine if the seller is capable of bringing any money to the settlement table.
Short-sale home buyers need to make two very important decisions relating to the third-party (lender) approval process: First: What are the timelines for all other contract contingencies? Second: How long are the buyers willing to wait for lender approval?
In regular home sales, most contingencies have a timeline that begins on the date the contract is signed by the last party to sign, also called the “ratification date.” Those timelines typically run seven days to conduct home inspections, 14 days to apply for a mortgage, and 30-45 days to obtain an appraisal and loan commitment.
But since short-sale lender approvals are taking many months, it is futile to make the buyer jump through those expensive and time-consuming hoops only to then wait many months for the lender’ to approve the short sale. For this reason, short-sale buyers should insert a clause that postpones the commencement of those deadlines until seller has obtained written approvals from all lenders to the short-sale contract. The buyer must also evaluate how long he is willing to remain legally bound to the short-sale contract and to have his earnest money deposit sit in the escrow account.
If real estate agents are involved, then their brokerage commissions should also be part of the short-sale contract. Finally, because the short-sale contract will require a high level of follow-through and perhaps even legal negotiations between the seller and his lender, the buyer should require the seller to engage a short-sale negotiator.
That negotiator is often an experienced real estate or bankruptcy lawyer, who assists the seller in getting his short sale approved by the lender. Fees for these negotiation services generally range from $1,500 to $3,000 and should be paid at settlement. Generally speaking, the real estate brokerage commissions and the short-sale negotiator fees are to be paid by the seller’s lender in connection with its approval of the short-sale contract.
In fact, government regulations prohibit most lenders from taking real estate commissions and short-sale negotiators fees into consideration in deciding whether to accept, reject or make a counteroffer to a short-sale contract. So, as long as those fees are customary for the location where the property is located, the lender cannot seek to pressure any settlement service provider such as real estate brokers, appraisers, inspectors or settlement attorneys to reduce their fees in order to gain the lender’s approval to a short sale.
For the patient buyer who can wait the three to five months for a short sale to be approved, short-sale purchases can be win-win-win situations for seller, lender and buyer. The seller is able to sell his home with the least amount of damage to his credit possible. The lender gets a lump-sum cash payoff and avoids adding another nonperforming property to its inventory. And the buyer may walk away with a bargain-priced home that may be in better shape than many bank-owned properties.
Harvey S. Jacobs is a real estate lawyer in the Rockville office of Joseph, Greenwald & Laake. He is an active real estate investor, developer, landlord, settlement lawyer and lender. This column is not legal advice and should not be acted upon without obtaining your own legal counsel.