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“Pre-Foreclosure Short Sale” for less than mortgage amount due – (SHILO™ type solution)
Short Sale: Can’t Afford: Can’t Sell on MLS: Move Out: Save Good Credit:
In the event the borrower wants to move out, and has found a third party buyer that will only offer an amount less than the amount of the loan balance, a Short Sale, may be the answer. The borrower will have to make a series of written representations to the lender in a Short Sale Package, including a Financial, Medical or Legal Excuse Hardship Letter with supporting documentation on (1) the borrower, (2) the home and (3) real estate market, including: bank statements, repair estimates, three to four months failed listing results (from the “multiple listing service”), rebuttal price opinions, purchase contracts, HUD-1 or settlement statement, proof of funds or prequalification letter from buyer’s bank, etc. The lender will also attempt to establish a fair market price for the house. The price the lender will propose is called the Broker’s Price Opinion (BPO). It will usually differ greatly from the price that the borrower expects to sell the home as based upon the seller’s experience of at least 3 months of failed sales. This reconciliation of the fair market price will cause great delays and drag the process on for months (and months).
Notwithstanding, this stage will lend it self to buying a ‘short sale’ at a price below the amount due on the mortgages and usually 20-40% below market. This will also require the lender(s) to agree to take less than the amounts due, which will require 1-4 months of negotiations. However, it is critical to understand that, although laws are pending in Congress, the homeowner presently may be subject to (1) income tax on the amount of forgiveness of debt, and/or (2) a deficiency liability for the difference between the sale proceeds and the mortgage balance outstanding, plus costs and fees. In California, the lender may not seek a Deficiency Judgment on a non-judicial foreclosure; likewise the borrower has no Rights of Redemption therefrom, however a short sale is not a nonjudicial foreclosure. It behooves both the buyer and the short seller to negotiate the waiver of both the deficiency judgment and the income tax (1099 reporting) liability.
An attorney should be consulted by the buyer and seller to avoid unwanted results. You need to make a hard decision about this possibility before accepting a short sale, or negotiate with the lender that it will not report a 1099 on these amounts for reasons of the characterization of the agreement is such that none is required.
Special Note: Taxation of “Forgiveness of Debt”:
Forgiveness from the Forgiveness - of Mortgage Debt Income Tax!
Proposed legislation in the House, officially titled "The Mortgage Cancellation Tax Relief Act of 2007" (H.R. 1876), was introduced April 2007; and S. 1394: Mortgage Cancellation Relief Act of 2007 was introduced in the Senate on May 15, 2007. (See attached the two pending proposals in Congress)
The bill when law would authorize forgiveness from the forgiveness of mortgage debt income taxation in certain circumstances. There is bi-partisan support for these proposals and law is expected from Congress on this issue. The proposals’ effective dates are the date of enactment or the date the President signs the legislation. At this time it will not be retroactive.
Generally in a short sale, your tax liability is not based on the difference between the fair market value and the outstanding mortgage. In a foreclosure your tax liability is not the difference between your mortgage and the foreclosure-sale amount. Taxes are based on the difference between your BASIS in the property (your tax basis or purchase price plus improvements, less depreciation and deferred gains carried over from previous deferred sales) and the amount you owe on it at the time of the short sale or foreclosure. So, if you owe less than your BASIS, you may not owe any tax; no matter what the fair market value. If you owe more than your BASIS, you will be taxed on a foreclosure or short sale.
This solution should be preset by contract as a safe harbor intelligent loan option (SHILO™) afforded all borrowers in their loan documents at loan origination, refinance or at loan workout. See Delays and Problems With Short Sales and Short Refinance below.
Link to 13 Homeowner Solutions to Default & Foreclosures
Foreclosure Laws
Judicial Foreclosure is rare. Non-Judicial Foreclosure is prominent. Security Instruments are the Deed of Trust and Mortgage. There is a Right of Redemption in judicial foreclosure only. It usually takes 110-120 days or more for the non-judicial foreclosure process to be completed.
Link to Foreclosure Laws
Richard Ivar Rydstrom, Esq. email
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