Sunday May 21, 2017

Short Sale vs. Foreclosure

It's a harsh reality but sometimes you face financial problems may force you to have to get rid of some real estate.

If you're behind on mortgage payments and there's no way you will be able to afford the home you will be faced with deciding which route to take; foreclosure or a short sale.

Neither situation is ideal but sometimes you have no choice. Let's take a look into each option and compare the two.

What is a Foreclosure?

A foreclosure is when a home owner loses all rights to their property and ownership is returned to the lien holder. The homeowner terminates all of their rights to the property and anything left inside.

Foreclosures occur when the home owner fails to make their mortgage payments, usually for several months. It's almost the equivalent of being evicted from a rental property.

What is a Short Sale?

Short sales are similar to foreclosures in that they result from being delinquent on your mortgage payments. Basically a short sale is when a property is sold for less than the amount owed on a property.

The transaction takes place between a potential buyer and the lien holder instead of the home owner. Generally the selling price is significantly less than the amount owed on the property.

The purpose of the short sale is for the lien holder to try to minimize their financial damage due to the home owners defaulting on the mortgage.

As an example:

  1. Bob owes $200,000 on his mortgage and hasn't been making his payments
  2. Bob decides that he wants to try to do a short sale and his bank agrees
  3. A buyer puts in an offer $125,000 and the bank accepts it
  4. The bank takes the $75,000 difference as a loss

It's important to remember that it's up to the lien holder whether or not they want to do a short sale, not the home owner.

Which is better?

A lot of people look at short sales as an alternative to foreclosures.  Mainly due to the fact that foreclosures are more costly to the home owner, but neither one is an ideal way to end your home ownership.

With a short sale, if the amount the property sells for doesn't cover the amount owed, the home owner isn't responsible for the difference. With a foreclosure, you may be liable if the lien holders can't recoup the full amount of your mortgage.

Some courts allow deficiency judgments which allow lien holders to collect any amount owed from the home owner. This puts you in a large deficit. Not only is your credit ruined but you also could owe hundreds of thousands of dollars.

A downside of short sales is that they can only be done if the lien holder agrees to it. If they want to go through the foreclosure process then you pretty much have to either go along with it or pay the back payments.

One thing short sales and foreclosures have in common is they will both harm your credit. Due to the missed payments it will be difficult to receive a mortgage in the future without a large down payment. Also in both situations, there is usually tax penalties associated with them.

In short sales any amount that isn't collected by the lien holder is considered "forgiven". The IRS considers this "forgiven" amount as income so you might have to pay taxes on it. It's wise to consult a lawyer or accountant before going through with a foreclosure or short sale to see the possible tax issues involved.

So as you can see, both foreclosures and short sales have disadvantages but it is possible to bounce back.

Make sure you give careful consideration to either option for before making a final decision because it will have long lasting effects. So choose wisely and go with what's best for your situation.


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