Real Estate Short Sales
“SHORT SALES” (BEWARE THE TAX MAN!)
With the problems in the housing
and mortgage industries, the values of homes have plummeted.
Owners of these homes with debt that is greater than the market
value of the homes are allowing them to be foreclosed upon or
are trying to sell them short.
A “short sale,” in the real estate
sense, is selling a home for less than what is owed on the
balance of the mortgage and asking the lender to forgive the
unpaid balance. For example, selling a home for $80,000.00 on
which the mortgage lender is owed a balance of $100,000.00. You
are proposing to sell the home $20,000.00 dollars “short.”
By short
selling the home some owners are trying to protect their credit.
They are hopeful that by short selling their home they will
avoid a foreclosure on their credit report.
Not all
lenders will consent to a short sale. Sometimes it makes more
financial sense to a lender to foreclose. Not all sellers and/or
properties qualify for a short sale in any event.
To Qualify
for a short sale generally 1). The Market Value has Dropped.
You must confirm for the lender that the home is worth less
than the amount owed to the lender on the balance of the
mortgage; 2). The Mortgage is in Default (although they
may listen if you can show factors indicative of a pending
default). If you are paying the mortgage, they generally will
not consider a short sale; 3). You Have Suffered a Hardship.
You must document the reason that you can not, as the
seller, pay the difference due upon sale between the selling
price and the balance you owe on the mortgage. You must explain
why you have stopped or will have to stop making the monthly
mortgage payments; 4). You, the Seller Have No Assets.
The lender may want to see your tax returns or a financial
statement prepared on your behalf to ensure that you have no
ability to pay the difference between the short sale price and
the balance owing the mortgage company. If you have assets that
could be liquidated and used to pay the difference, your short
sale may not be approved.
If
you think that you as the seller and your property will both
qualify for a short sale, how do
you do a short sale? Each lender will have different
requirements and procedures for determining whether they are
going to qualify a seller and a property for a short sale, but
generally the following steps can be expected:
1).
Get in touch
with the lender and find out who is the individual that
determines eligibility for a “short sale.” You may be on the
phone awhile, but you are going to need to talk to this person.
2).
If working
with a third party, i.e., a real estate agent, title company,
lawyer, etc., forward a
letter of authorization to your lender giving the lender
permission to speak with this party (your agent) about
your mortgage loan. Be sure to provide all necessary information
regarding your name, loan number and your Agent’s contact
information.
3).
The seller
signs a listing agreement with a real estate agent to list the
property for sale. Until you have someone to buy the property,
there can be no short sale. The Listing
Agreement will indicate that sale
is subject to approval by third party (the lender who must agree
to accept less than what is actually owed).
4).
Your Agent
locates a buyer who makes a formal offer to purchase (assumption
is that offer is less than the mortgage balance or it’s not a
short sale (If there is no buyer, there is no short sale
either.)
5).
The seller
accepts the buyer’s offer (subject to approval by the lender).
The Offer and other documents required by the lender (estimated
closing statement, hardship letter, proof of income and assets,
bank statements and financial records, comparative market
analysis) are forwarded to the lender.
6).
The seller’s
mortgage lender accepts the “short” offer and agrees to forgive
the balance. (If the lender doesn’t accept the offer, there is
no short sale.)
7).
The Real
Estate Transaction is closed. Buyer delivers funds for purchase.
Seller provides Deed. Lender releases the lien.
Does
everybody win? Well, maybe, maybe not. There could be tax
consequences. If you are still considering a short sale, it is
strongly suggested that you speak with an experienced
real estate attorney and a qualified tax professional to discuss
the impact of a short sale of YOUR property.
Generally,
forgiven debt is considered income by the Internal Revenue
Service. This means that the IRS will expect to be paid income
tax on the amount of debt that is forgiven. In other words the
forgiven debt is taxed just like you received the forgiven debt
in the form of a check from an employer. The lender forgiving
the debt may forward a IRS form 1099C to the IRS informing the
IRS of the debt that they forgave for you.
However, in
the current state of the economy there may be some relief. Be
certain to have your tax professional discuss with you the
application of the Mortgage Forgiveness Debt Relief Act of 2007.
This Act is in effect until December 31, 2009. This Federal Act
excuses taxes on forgiven debt from a short sale of a primary
residence. Be aware that it may not apply to an investment
property, a summer home or a second home. Again, talk to a tax
professional! Be certain that conforming legislation has been
completed in your State.
By the way,
debt discharged in a Bankruptcy case is not “forgiven”
and therefore there is no tax consequence if the debt is
discharged as opposed to forgiven. The tax man will not come
knocking for taxes on debt discharged in a bankruptcy case.
A short sale
will show up on your credit report. It may show up as a
settlement or a preforeclosure redemption. A short sale is
adverse information. Adverse information can stay on your credit
report for up to 7 years (a bankruptcy can stay on for up to 10
years). While the short sale on your credit report may not seem
as bad to you as a foreclosure, articles I have read suggest
that the drop in your FICO credit score after a short sale are
the same as after a foreclosure. Credit reports are somewhat
subjective, the are to the person reading what they make them.
The creditor reading the report may not make a distinction
between a short sale and a foreclosure.
Always obtain legal counsel and tax
counsel before undertaking a short sale. Remember, your real
estate agent is earning a commission and has a monetary
incentive to recommend that you do a short sale. Your real
estate agent can not give you legal advice.
The
information regarding short sales presented here is BASIC. Be
sure you have discussed the possibility of a short sale of your
property with both legal and tax professionals before you take
the first step.
I hope you
found this information helpful.
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