Short Sales and Avoiding Foreclosure

Otherwise titled: “If you you don’t know what you’re doing, get out of the way!

Here in the Louisville, Kentucky real estate market, I’ve heard rumors that as many as 1 in 4 listings for sale is a short sale. A scary scenario in any market, but worsened by the fact that most REALTORS don’t know how to market, negotiate and get a short sale closed. Unfortunately, as I work with investors, I’m seeing bank owned properties that were listed for months before the foreclosure auction without selling.

As a REALTOR, we have always been taught to get the highest and best offer possible for our clients. This approach is absolutely the correct one with a regular home seller. In fact, our real estate laws and regulations, as well as the National Association of REALTORS Code of Ethics, require that we always work in the best interest of our client. Thus, in a normal situation, getting the best offer usually is in the best interest of the client.

However, when we have a client that is “upside down” or “under water” with their mortgage, and is, or is about to be behind in payments, then their best interest may be something else entirely. Think of your credit rating as a car wreck, a few dings are not nearly as problematic as having the car totaled. A short sale is like some dings, if it is done properly. The seller will have some late or missed payments in their credit report, but with the help of a real estate attorney who actually understand short sales, there won’t be a deficiency judgement and the loan will be noted as paid. The missed payments will affect the credit score to some extent for 1-2 years, but won’t usually be devestating. However, if the home proceeds into foreclosure, then the credit is effectively “totaled” and it will be at least 7 years before recovery.

What I’m finding is that many REALTORS listing properties that are pre-foreclosure, don’t understand that the key is to get an offer and let the bank decide whether or not to accept the short sale. All to often, the listing REALTOR is still trying to get the best price for their client, not realizing that you have to get an offer to attempt a short sale, and a short sale is ALWAYS better than a foreclosure for everyone involved. Some REALTORS even recommend a seller reject an offer and never even present it to the lender for approval. Let the lender determine what is reasonable to their bottom line, they can always reject it or counter back.

Many agents forget that the seller cannot get any funds at closing, so holding out for a higher offer rarely benefits them. The keys to a successful short sale are: persistence- it’s never easy locating the person with the authority to approve the short sale, patience- banks move at their own pace and it has nothing to do with any time frame written in a contract, preparation- make sure the sellers and the buyers understand this process is slower than normal, and pricing- if you never get an offer you can’t have a sale!

Have we hit bottom yet?

The Federal Reserve cut the “discount rate” on Friday by a half percent.  The “discount rate” is the rate the banks pay to the Federal Reserve to borrow money.   Is the the perception in the real estate world that home loan rates are tied to the “discount rate”.  This is inaccurate.  The home loan rate is more closely tied to bonds, as most home loans are “packaged” and sold to investors.  It’s actually this packaging that has fueled the sub  prime loan mess, but that’s a story for another day.  Today we speak of the housing market, which I fear has not yet hit bottom.  The first quarter of 2005 was the peak for adjustable rate loan originations.  That means that the the first quarter of 2008 is the peak for adjustments on the 3-1 ARMS.  Agora Financial’s Strategic Investment newsletter has an article with a table showing that March 2008 will be the peak month for adjustables with $110 Billion dollars in home loans scheduled to reset that month.  This does not bode well for the average homebuyer.  I predict that we will go from seeing almost anyone who could conjure up income statements getting a loan, to a massive swing with FHA being the only option for the first time homebuyer.  This is not a bad thing, but will require significant retraining for buyers.  Many first time homebuyers will need to be helped through the process of cleaning up credit and saving a 3% down payment.  This alone will further slow down the real estate market.  What does this mean for the investor- stayed tuned as we explore the world of foreclosures and REO’s.