With all the news and activity swirling around the foreclosure basin, it is important to consult sellers who are contemplating a short sale appropriately. First, there may be legal and tax consequences which may affect them and you should always refer a seller to their lawyer or accountant before going any further in the process to discover potential problems.
Second (this is for buyers or sellers), short sales generally are not… well, short. They can take substantially longer than one might have the patience or time for — sometimes as much as three to four times longer to close than a traditional transaction. This will certainly have a material weight on your decision process too.
Candidates for a short sale will be scrutinized by the bank thoroughly. There has to be substantial proof of hardship to get a principal reduction off the original note, which really means one simply can’t make the payments at all and, thus, can’t perform to pay the loan.
The bank will require tax returns, pay stubs, W-2’s, bank and investment statements (both current and a history); they want to make sure money has not been moved recently that could have paid the debt.
Typically, if there is a forgiveness of principal versus a foreclosure the credit report won’t be damaged as bad; however, it will suffer from remarks that would show a future lender that there was a history of repayment problems. This obviously becomes problematic in seeking financing in the future.
The last important piece of the short sale puzzle is the Tax Man. In 2007, there was a revision to the tax code that basically said there would be no tax on any debt forgiveness. This is generally for the seller of a primary residence though. In cases involving an investment or vacation home, there are more hoops to jump through. The IRS demands that you prove complete insolvency before they will consider letting the tax go.
These are critical points we think you should be aware of before advising anyone contemplating a short sale.
Scott LeForce
President
Scott.LeForce@rwnc.net
