Short sales in real estate are becoming more common here in Dublin, CA, and the entire East Bay. Of the 255 Dublin homes listed as active or pending as of February 8, 2010, 133 are short sales. Basically, if you bought a home between the years 2003 and 2008, you very likely owe more on your loans than the home is currently worth. Being “upside down” on the loan alone will not have a substantive impact on you credit rating, if you continue to live in the home and keep paying your mortgage.

The situation can get a little sticky, if you want to sell. When the current market value of your home is less than the total of your loan balance and the expenses incurred during a sale, you can avoid damage to your credit rating by paying off the difference yourself. In reality most sellers do not have a large pile of cash just sitting around for such an occasion. If you have to sell, you may need to do a short sale.

Before we continue, let’s go back to when you first tried to buy the home you are now attempting to sell. Your lender loaned you the money to buy the home, and you promised the lender to pay the loan back. If you stop paying your mortgage for any reason, your lender has the right to take your home by initiating the foreclosure process. Four to five a months later, the foreclosed home will be put up for sale at a courthouse auction. If no one buys the home at the auction, the title of the home goes to the lender and the property becomes an REO, or Real Estate Owned by the bank. The REO home will be listed on the MLS by a Realtor working for the bank and sold to a new buyer. A foreclosure is devastating to your credit rating and does not always relieve you of the obligation to pay the lender back.

A short sale is an agreement from your lender that if you sell the home, the lender will accept whatever the home sells for as full payment for the loan. To understand the process, we will consider the hypothetical scenario in which you purchased a home for $500,000 in 2004. The current loan amount is $400,000, while the current market value of the home is $350,000 and the cost of sale is $50,000. If the home is sold today, you will get $300,000 from the sale. Because the current loan amount is $400,000, you will be be short $100,000. If the lender agrees to take the $100,000 loss, you can complete the sale of your home, “short-pay” the loan balance, and walk away. Your credit will take a hit, but the damage is usually not as severe as a foreclosure.

Why would lenders ever agree to a short sale? Foreclosures are expensive and can take many months to process. Even if the lenders eventually get a judgment against the borrowers for the “Deficiency,” actually getting the money back can be very difficult. A short sale may be more cost-effective in the long run. Of course, the lenders will want proof that the borrowers really can’t pay their mortgage. Stating that the mortgage is upside-down is not sufficient. Borrowers also need to prove that they are suffering from genuine hardship such as loss of income, health expenses, or some other unexpected reasons for non-payment. Borrowers will need to give lenders copies of their income tax statements for the past two years, bank statements, mortgage statements, bills, and pay stubs or other proof of income.

If a short sale seems to be the best option for your situation, you should contact an experienced real estate agent as soon as possible. A short sale can take four to six months to process, especially given common causes for delay like bureaucratic dead ends, lost faxes, and indecision on the part of the lenders. I have seen some that are done in 40 days, but those are the exceptions. A knowledgeable Realtor can make this long and uncertain process more manageable. The agent can list the home for sale and work hard to get a good offer. With an accepted offer in hand, your real estate agent will negotiate on your behalf and try to convince the lender to accept the short sale proceeds as full payment for your loan. Beware of scams that try to confuse home owners into paying fees or signing over deeds. Never pay upfront or sign anything you don’t completely understand. Legitimate Realtors are paid only as part of a completed short sale transaction.

If you want more information, or are curious if a short sale may work for you, please call me, Eric Haggin, at (925)388-6462 or email me at Eric@EastBayPlus.com.