SHORT SALE vs. FORECLOSURE
July 11, 2013 by SDSSR

We’re often asked to explain the difference between Short Sales and Foreclosures. The issue is addressed on our Frequently Asked Questions Page, but we decided to expand the FAQs answer with this blog post so we could further illustrate the practical consequences of both options.

In a short sale the lender reduces the payoff so that a homeowner who owes more than a home is worth can sell it for market value. The short sale permits voluntary sale of the home with the lender’s permission—it’s planned and dignified. In a foreclosure proceeding, the lender engages in a legal process to recover the amount owed on the mortgage by forcing the sale of the home used as collateral for the loan. The lender assumes ownership of the property and evicts the occupants.

In addition to the process, consider the financial implications of each choice. Let’s start by assuming Mr. Green owns a home with a mortgage balance of $350,000 and a current market value of $250,000. Mr. Green opts to short sale his home and his Realtor secures a buyer who offers the current market value, $250,000. Mr. Green’s bank reviews and accepts the $250,000 offer. In doing so, the bank is left with a deficiency balance of $100,000. Thirty days after the transaction closes, Mr. Green pulls his credit report. The mortgage trade line states “Settled for less than full balance” and the balance on the mortgage is reported as $0. As part of the Short Sale Approval process, the bank forgave the $100,000 deficiency balance. Mr. Green has paved a path to financial recovery and can buy another home in 2 – 3 years, perhaps even sooner.

On the other hand, assume that Mr. Brown faces the same dilemma, but elects to do nothing, thereby allowing the bank to foreclose.  The bank undertakes the required legal procedures and forecloses on the property (adding thousands to the unpaid balance). Mr. Brown receives notice of the foreclosure and his home is taken back by the bank to sell as an REO (Real Estate Owned). Four months later the bank finally sells Mr. Brown’s home, but instead of selling the home for $250,000, as they did in the short sale scenario, the home is sold for $180,000 (due to market conditions, vandalism, etc.). The deficiency is now $170,000 and the bank has added foreclosure legal fees of $15,000, along with asset protection costs of $5,000, for a total deficiency balance of $190,000. Thirty days after Mr. Brown is notified the bank has sold his home, he obtains a copy of his credit report. The mortgage trade line reads “Foreclosure” and the remaining unpaid principal balance is $190,000.

In sum, Mr. Brown receives a credit profile that’s much worse, a deficiency balance of $190,000, and contributes even more to declining home values in his community. In the process, Mr. Brown also experiences the humiliation of foreclosure, instead of the dignity, control, and peace of mind offered by a short sale.

Those are the differences between Short Sales and Foreclosures. In the battle between two options that are both less than ideal, the Short Sale seems to win.

- SDSSR

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