What to Know Before Buying a Short Sale Home
Ideally, homeowners would have built up considerable equity in their homes before they sell them. But this isn’t always the case. Some homeowners must sell when they have little equity or negative equity in their homes, meaning they owe more than their property is worth.
In these cases, short sales can be used to help homeowners get out of their mortgages without having to make up the difference to their lender. With a short sale, a property is sold for less than what the homeowner owes on their mortgage. However, this is only possible if the mortgage lender agrees to accept the lower sales price. Most short sales take place when borrowers cannot continue making the monthly loan payment and want to avoid a foreclosure.
While going through a short sale can be stressful, these sales do present a unique buying opportunity for people looking for a home. Keep reading to learn more about short sales, where to find them and how to know if a short sale is a good deal.
How to find a short sale
Like any other property that’s for sale, short sales are listed in an online database such as the Multiple Listing Service, or MLS. Often, these property listings will be noted in the MLS with one of the following phrases:
- Short sale
- Subject to bank approval
- Third-party review required
- Preapproved by bank
The way these properties are listed in the MLS can help you determine where a home is within the short sale process. For example, “approved for short sale” generally means that the homeowner has already been approved for a short sale by their lender and can sell the home for less than they owe. On the flip side, “third-party review required” typically means the homeowner would like to move forward with a short sale but hasn’t been approved by their bank quite yet.
Your real estate agent should be able to help. They can sort through the “approved” and “unapproved” short sales to find homes that could be sold at a good price and with minimal hassle, said real estate investor Aaron Norris, vice president of The Norris Group in Riverside, Calif.
You also might be able to find short sales by following foreclosure notices. Homes often go into foreclosure because the value of the mortgage exceeds the potential sales price. However, a home that is in foreclosure could very well end up in a short sale situation at some point in the process, said Bruce Ailion, a real estate agent and attorney with RE/MAX Town and Country in Atlanta.
“Many distressed owners do not know what a short sale is or that there is a solution other than foreclosure,” he said. For that reason, keeping an eye on upcoming foreclosures could alert you to a short sale opportunity before others find it.
You can also check county clerk records for properties that have notices of default filed (known as preforeclosure), as the owner may be interested in a short sale rather than going through foreclosure. Finally, check newspapers, classified ads, Zillow and Craigslist for preforeclosure and for-sale-by-owner properties that could be short sale opportunities.
How to buy a short sale
If you’re eager to buy property at a discount, pursuing a short sale could be the way to go. Here are some steps you’ll want to take as you pursue the short sale buying process from beginning to end.
Step 1: Determine how much you can afford to spend.
Before you start searching for a home, it’s crucial to figure out how much you can truly afford to pay. You should consider your other bills and monthly obligations in deciding how much you feel comfortable spending.
This calculator can help you figure out how much you can afford based on your income and location.
Step 2: Get preapproved for a mortgage.
Getting preapproved for a mortgage is a crucial step in buying a short sale, Norris said. Not only can this help you determine how much you can borrow, but lenders overseeing short sales often reject offers from buyers who don’t have a preapproval letter from a bank.
“Short sales are hard enough without going in and out of escrow with people who don’t qualify,” Norris said. By getting preapproved, you let the bank know you can afford to buy the home. This can help you stand out in a situation where you are competing against other offers.
To get preapproved for a mortgage, you will need to meet with a lender or apply online and provide some basic information about your financial status. Details you’ll need to have handy include your:
- Credit score
- Employment status
- 2 months of bank statements
Once you are preapproved, your lender will provide a letter that states the loan amount and terms you qualify for. You can use this letter once you decide to make an offer on a property.
Step 3: Work with a real estate agent to find short sales and other properties for consideration.
Start searching for short sales in the area you’re considering. Scan MLS listings and real estate listings online or in your local newspaper. It can also help to work with a real estate agent who may have intimate knowledge about properties nearing foreclosure or potentially heading toward a short sale in the future.
Step 4: Conduct due diligence on properties you’re considering.
Once you find a property you’re interested in, it’s crucial to do some research to ensure you know what you’re getting into. First and foremost, you should ensure the short sale is only with one lender, said Las Vegas real estate agent Colleen Schaefer. Why? Because homes that are underwater often have a second mortgage, that would also need to be dealt with in a short sale. While it can be challenging to get a short sale approved with a single lender, having a short sale go through with two lenders involved can be downright impossible, Schaefer said.
The buyer should also take the following steps (with the help of a real estate agent) to ensure the home is a safe buy:
- Compare sales prices with similar properties in the area.
- Explore the local neighborhood to understand its amenities, school system and culture.
- Check public records to ensure the home’s title is clear.
- Find out the current loan amount on the home so you can draft an offer.
- Hire a licensed professional to conduct a home inspection and termite inspection to make sure you are aware of any potential issues and repairs the home will need.
Step 5: Make an offer.
Making an offer on a short sale property can be challenging, Ailion said. This is particularly true on a home that is not yet approved for a short sale by the mortgage lender.
As you prepare to write the offer, be aware that landing on a price for a short sale can take longer than usual. Some experts said they’ve seen short sale negotiations last for six months to a year.
In addition, note that the lender is not going to make repairs and the homeowner usually has no money for them. As a result, the cost of fixing issues you uncover during a home inspection must be built into the sales price of the home. This is yet another reason you’ll want to have an inspection done before you make an offer, Ailion said. That can help justify a price lower than the outstanding mortgage or what the lender may see as market value, he said.
With these issues in mind, sit down with your real estate agent to determine the best price you plan to offer for the home. Come up with an offer that is somewhat close to market value while also taking into account any repairs that need to be made. Your real estate agent can help you look at the pricing of comparable sold homes in the area and give you advice on how much to offer for the best chance of success.
Your offer should include a sales contract that is ready for the seller to sign, a copy of your inspection to back up any claims of needed repairs, earnest money if you plan to put down cash as part of your offer, the preapproval letter and any information you want to include on comparable properties in the area.
Generally speaking, lenders who are willing to accept a short sale will not write a counteroffer. Instead, they will accept your offer or deny it outright. If the bank accepts your offer, make sure to have your real estate agent draft a short sale addendum that lists information such as:
- Contingencies that can lead to cancellation of a contract
- The time period buyer is willing to wait on short sale
- Timeline for the release of the buyer’s earnest money deposit
- Costs buyer and seller will pay to execute the short sale
- What will happen if other offers come in
Step 6: Close on the home.
Once your offer has been made, there may be quite a bit of waiting involved to hear back from the seller’s lender. While most short sales take 60 to 90 days to process and close, the complex nature of short sales means they can take quite a bit longer.
If a bank needs to approve the short sale, for example, the seller will have to spend some additional time proving they are unable to make mortgage payments and are facing financial hardship. Also note that just because a seller asks for a short sale does not mean they will get one.
Still, it’s possible to close on a short sale and walk away from the process with a stellar deal. If you make it to closing, you’ll attend a meeting with your real estate agent, title insurance company, escrow company and potentially your lender to execute the loan. At this meeting, you’ll sign all documents related to the home purchase and potentially get the keys to your new property.
Pros and cons of buying a short sale
- Potential deals. The biggest draw is the potential for a lower sales price, Schaefer said. With a lower sales price, you could be able to buy a property and gain instant equity in the process.
- Less competition. Since many borrowers don’t want to deal with the extra steps involved in a short sale, you might be able to buy a property in a popular area without as many people competing with you.
- Seller cooperation. While buyers who purchase a foreclosure could face issues with sellers who aren’t leaving on their own accord, sellers involved in short sales are typically eager to sell and leave. This may make the process less stressful for the short sale buyer versus buying a foreclosure at a discount.
- Time and stress. Short sales can take a lot longer to process than people realize, and that there’s still no guarantee you’ll get the property in the end, Norris said. The real estate investor said he was once trying to buy a short sale for a family member. Eight months in, the deal fell apart because the lender sold the mortgage to a new bank that proceeded to ask for more money, even after the entire deal had been negotiated and approved.
- You’re buying as is. While it’s possible to get the seller to make repairs on the property in a normal transaction, this isn’t the case with a short sale. When you buy a short sale, you are accepting the property as is and responsible for fixing any issues that arise.
- More risk. With a short sale, you’re not in control of the purchase or the timeline. You could pay more upfront without knowing whether the transaction will be successful. If a higher offer comes in, the lender could reject your short sale and accept the higher offer.
The bottom line
Buying a short sale might not be for the faint of heart, but there are plenty of deals to be had. The key to getting a good deal on a short sale is making sure you have conducted due diligence on any property you’re considering. You also need to have a flexible timeline in terms of when you need to move, since short sales may take longer to process and close.
With an experienced real estate expert working on your side of the table, you’ll have the best shot at finding a solid deal and avoiding some of the pitfalls that come with buying a distressed property.