Tortuous Short Sales: Cheaper Purchases That Aren't Always Worth It

Everyone talks about finding alternatives to foreclosure. What people don't talk about is how difficult they can be to pull off.

Take, for example, the "short sale," which can happen when a home's value has fallen below what the seller owes on the mortgage. In theory, everyone wins, at least compared with a foreclosure. A financially strapped seller suffers less credit-history carnage, the lender loses less money than if it were to take possession and have to resell the house in a weak market, and the buyer gets a really good deal.

However, buyers thinking about acquiring a home this way should understand that it can be a long road to a short sale. Negotiations are far more complicated than with a typical purchase. You may have to attempt several deals before one goes through. There will be weeks, if not months, of delay. The home you get could need lots of work. And you could lose several hundred dollars in upfront fees on each failed attempt.

Why volunteer for such a hassle when the local market is glutted with similar homes that you could purchase more easily? It's about money, of course. "I wouldn't bother unless the price is way lower than the market," said Bobby Samson, an agent with Samson Realty who focuses on the Route 28 corridor around Dulles Airport. He said the price would have to be 10 to 15 percent below market value just to catch buyers' interest.

The local multiple listing service doesn't compile statistics on how frequently short sales are happening, but real estate agents and lenders say they're seeing them more often -- and plenty of thwarted attempts. "It's been pretty prevalent in our market, that's for sure," said Laura Triplett, branch manager for SunTrust Mortgage in Woodbridge. We can expect to see more as long as home prices fall and as more adjustable-rate mortgages reset to higher rates that borrowers can't afford.

Typically, if a seller can't get enough for a house to pay off the mortgage, that seller is expected to take cash out of savings or investments to cover the shortfall. For a short sale, the seller must convince the lender that he's too broke to cover that shortfall, and that the lender would be cutting its losses by agreeing to accept less than the amount owed.

Lenders don't like to accept less than they are owed, to put it mildly. And they're not too keen on buyers getting below-market deals at their expense. And with all the calls coming from Congress, the administration and elsewhere saying lenders have to figure out a way to stem foreclosures, some of those lenders are wondering whether they'll be snowed by borrowers who could pay but don't want to.

Not only will the lender need to be convinced it's the best deal it can get, but a title insurance company may have to sign off on the deal as well. Title insurers decide case by case, according to Wesley Justice, assistant vice president for loss management at United Guaranty Residential Insurance, which sells private mortgage insurance (PMI) to borrowers with low down payments.

They're more inclined to do it when borrowers can demonstrate a financial hardship, such as a job loss or illness. Even then, they're skeptical. "Quite frankly," he said, "sometimes some of the hardships they're going to be [deceiving] us about."

For the buyer, a short sale is more likely than a regular transaction to fall apart before closing. The sellers are already on the path toward foreclosure. "If they're not already behind on the mortgage, [lenders] will not entertain the request," Triplett said. If the buyer is lucky, the sellers have already approached the lender about the prospect of a short sale and have gone through the necessary financial disclosure. (It's similar to a loan application, but in this case the pay stubs and bank account information are supposed to prove that they can't afford that loan or to pay off any shortfall after a sale.)

However, Triplett said, lenders won't take the request too seriously until there is a live offer on the table.

That's when the negotiating begins. Lenders want the home to sell for as close to market value as possible. But a buyer wants to be compensated for the extra hassle and uncertainty.