SOS: Sellers in distress

Many times, short sale sellers may be the most noble of transaction parties. They have vigilantly continued to pay monthly mortgage payments, at least until recently, despite diminished property values wrought by the diabolical workings of a real estate market far beyond their control. They are underwater through no fault of their own and have fallen victim to a job loss, death or disability of a breadwinner, or another of life’s tragedies. All of the money they initially poured into the down payment and prior mortgage payments is at risk of being lost, and they are sinking into despair.

Others may be less saintly. They have made somewhat foolish or greedy decisions that left them overextended, but at the end of the day, in the same place as the goodstanding homeowner: underwater with the home worth less than the mortgage balance, unable or unwilling to keep up with mortgage payments and looking for an exit strategy. They may have tried a loan modification, a forbearance, a refinancing or a principal reduction without success and are now at the end of the rope. The alternatives have narrowed and all that appears to be left is a deed in lieu of foreclosure, a short sale or surrender to the unrelenting foreclosure headed their direction.

They want answers: what is the best course for them to follow? And they expect you to supply those magic cures for them. Potential short sale sellers clearly need information, and they need advice. Real estate brokers can provide information and point out the standard alternatives but can’t fall into the trap of providing personal legal or financial advice to downtrodden sellers. You can tell them what some of the possible options might be, but they must choose for themselves. This may be an exceptionally difficult task, especially if the sellers are depressed, exhausted, without hope and angry at all perceived representatives of that diabolic real estate world. When it comes to having someone tell them what they should do, they have to talk a housing counselor, their attorney or their tax advisor. Brokers cannot give legal advice and should always recommend that short sale sellers retain an attorney to help them navigate the sale.

Embarking upon the short sale voyage

When distressed owners decide on a short sale, your duty is to help set their expectations. The time has come to explain the perils that might lie ahead. Prep the clients so that they know there will be torrential downpours of frenetic demands for data and documents requiring instantaneous responses, followed by apparent calm seas of seemingly endless waiting. That calm may be deceiving — another storm may be brewing just over the horizon and might suddenly unleash on the owner, as when the asset manager who said the lender approved an offer suddenly demands more money. 

Explain that you will “man the crow’s nest” and help navigate the seller on the voyage by monitoring the mortgage servicer/lender’s progress, making sure the seller has promptly provided all needed information, and communicating with the mortgage servicer, seller and all others involved. Depending on the complexity of the deal and the number of junior lienholders, your relentless persistence may not be enough. It doesn’t hurt to watch for dolphins and swallows — those harbingers of good luck — that may be needed for the seller to reach the destination: lender approval of a short sale with no deficiency obligation.

Short sale developments

Over the past several years, there has been an endless procession of changes and touted improvements to the short sale process. The latest round includes several new measures from the Federal Housing Finance Authority with regard to mortgages owned by or guaranteed by Fannie Mae and Freddie Mac.

Short sale decision in 30-60 days

New short sale timelines require servicers to make a decision within 30 days of receiving either an offer on a property under the companies’ traditional short sale programs or a completed Borrower Response Package (BRP) requesting short sale consideration. If more than 30 days are needed, servicers must provide weekly status updates and make their decision no later than 60 days from the date the offer or BRP was received.

See www.fhfa.gov/webfiles/23887/Short_Sales_release_041712.pdf and www.freddiemac.com/sell/guide/bulletins/pdf/bll1209.pdf for more information.

New short sale guidelines

The new Fannie Mae and Freddie Mac documentation reduction measures include the following:

• Borrowers 90 days or more delinquent with a credit score under 620 will no longer be required to document their hardship.
• The right to pursue deficiency judgments will be waived in exchange for a financial contribution from a borrower with sufficient income or assets to make cash contributions or sign promissory notes.
• Second lienholders will be offered up to $6,000 to prevent from stalling the short sale process.
• Servicers can approve short sales for borrowers who are not in default but face certain hardships including death, divorce, disability or employment transfer of over 50 miles. 
• Military personnel with Permanent Change of Station (PCS) orders who are required to relocate will automatically be eligible for short sales, even if they are current in their mortgage payments, and will not be required to contribute funds to pay any remaining deficiency.

See www.fhfa.gov/webfiles/24211/ShortSalesPRFactFinal.pdf for more information.

Short sales for underwater borrowers who never missed a mortgage payment may not be the benefit they first seem to be. These non-delinquent parties who use a short sale will likely take just as big a hit to their credit score as if they had been seriously delinquent and the bank foreclosed, calling into question the desirability of such a measure. Credit agencies generally code short sales and foreclosure in the same way, but the FHFA is looking for solutions. If short sales were coded as “paid as agreed,” there would be no concerns for short sale sellers. Unfortunately, it may be some time before a fix is forthcoming from FICO.

Short sale delegation agreements

Standard delegation agreements have been reached with nine mortgage insurers to allow mortgage servicers to approve short sales and deeds-in-lieu without a separate review and approval by the mortgage insurer. The nine mortgage insurers that have agreed to expedite short sales are CMG Mortgage Insurance Co., Essent Guaranty Inc., Genworth Mortgage Insurance Corp., Mortgage Guaranty Insurance Corp., PMI Mortgage Insurance Co., Radian Guaranty Inc., Republic Mortgage Insurance Co., Triad Guaranty Insurance Corp., and United Guaranty Corp.

For more information, see www.fanniemae.com/portal/about-us/media/corporate-news/2012/5877.html. 

What about the deficiency?

Typically in a short sale, the lender agrees to accept less than what is owed in order to release the mortgage lien against the property. In and of itself, this does not forgive the remaining balance due on the mortgage note. If the lender intends on trying to collect the “deficiency” from the seller, the lender typically requires the seller to sign a promissory note at the time of the closing for the unsecured portion still owed.

If, instead, the lender chooses to forgive the shortfall, the lender may issue a Form 1099 to the borrower/seller. The seller then has to pay income tax on the forgiven amount. The Mortgage Forgiveness Debt Relief Act allows taxpayers to exclude from income the amount of the debt forgiven when the forgiven debt relates to the primary residence and the discharge of debt was due to a decline in the home’s value or the taxpayer’s financial condition. For example, if the seller owes $150,000 on his home and it sells for $100,000 in a short sale, the IRS could tax him on the remaining $50,000. That would mean approximately $12,500 in taxes if the owner was in the 25 percent tax bracket. 

Initially approved in 2007, the Mortgage Forgiveness Debt Relief Act is set to expire on December 31, 2012 if there is no Congressional action to preserve it. Brokers must keep abreast of any developments in this regard because owners may be much less willing to try for a short sale if the remaining mortgage balance not covered by short sale proceeds is taxable income. For more information about the Act, see www.irs.gov/Individuals/The-Mortgage-Forgiveness-Debt-Relief-Act-and-Debt-Cancellation.

Arriving at port

If the voyage was successful and the seller disembarks at port having sold the home without the trauma of a foreclosure, you will have earned your commission — always a good thing — but the intangible benefits are also important. Short sales are a rewarding endeavor that saves the seller and the seller’s lender from foreclosure, prevents another potential vacant REO property that falls into disrepair and brings down the neighborhood, and makes a small, yet positive contribution to the recovery of the market. Bon Voyage.

Debbi Conrad is Senior Attorney and Director of Legal Affairs for the WRA.