What Is a Short Sale, and Should You Buy a Home Through One?

Nathan Law

Our goal is to give you the tools and confidence you need to improve your finances. Although we receive compensation from our partner lenders, whom we will always identify, all opinions are our own. Credible Operations, Inc. NMLS # 1681276, is referred to here as “Credible.” Bargain-hunting homebuyers sometimes consider […]

Our goal is to give you the tools and confidence you need to improve your finances. Although we receive compensation from our partner lenders, whom we will always identify, all opinions are our own. Credible Operations, Inc. NMLS # 1681276, is referred to here as “Credible.”

Bargain-hunting homebuyers sometimes consider short sales in the hope they’ll find a property selling for less than market value.

In fact, short sales do sometimes sell for less than comparable homes, but it could be months before you know whether the sale will close.

Here’s what you need to know about short sales:

What is a short sale?

A short sale is when you sell your home for less than what you owe on your mortgage because you’re unable to continue making payments.

For example, you sell your home for $175,000 even though you still have a $200,000 mortgage balance.

Since a short sale won’t net you enough cash to repay your mortgage, it’s not a decision you should take lightly. For that same reason, the mortgage lender must approve a short sale before you can move forward with it.

Short sale vs. foreclosure

Although short sales and foreclosures both result in you losing your home, the processes are very different. Here are some of the key differences:

  • As the homeowner, you initiate a short sale by choice, whereas a foreclosure is imposed by the lender.
  • You might sell your home short to ward off foreclosure, but it’s the lender that sells a foreclosed property after it has repossessed it.
  • By the time your home gets to foreclosure, you’ll have missed several mortgage payments. That’s not necessarily the case with a short sale.

From a legal standpoint, short sales can put you at a disadvantage if you live in a state that allows deficiency judgements. A deficiency judgement is when the lender sues you for the difference between the sale proceeds and the amount needed to pay off the mortgage.

Alternatively, the mortgage lender can simply forgive the deficiency, in which case you might have to pay tax on the amount forgiven, according to the IRS.

  Short sale Foreclosure
Who initiates? Homeowner Lender
Time to complete Varies by lender; can take many months Approximately four to 10 months for uncontested foreclosure, depending on lender
Affects credit score? Yes Yes
Deficiency judgment Varies by state; lender can waive right to deficiency Some states allow lenders to get a deficiency judgement in judicial foreclosures, but not in nonjudicial foreclosures.
Tax consequences? Yes, if the lender forgives the deficit Yes, if the lender forgives the deficit

How short sales work

To kick off the short sale process, you or your listing agent must contact your lender to get permission to sell the home for less money than you need to pay off the mortgage. The lender will ask you for a hardship letter to explain why you can’t keep making payments.

The lender must also approve the specific terms of the sale. After you accept a buyer’s offer, you or your agent will submit the sales agreement along with a short-sale package containing the following items:

The lender will then evaluate the contract and package and decide whether or not to approve the sale.

Qualifications for a short sale

Lenders generally won’t approve a short sale except as a last-ditch effort to avoid foreclosure. Therefore, the most important qualification is a hardship that renders you unable to make your payments now and/or in the foreseeable future.

The lender will look at your income along with your assets in case you have savings or investments you could use to make your payments.

The other major qualification is that your home is worth less than your mortgage balance. This might be the case if home values in your neighborhood have fallen since you purchased your home.

Pros and cons of buying through a short sale

For a prospective homebuyer, short sales can present an opportunity to buy a home for less than you’d pay in a traditional sale. You might also face less competition because buyers might be unwilling to risk the pitfalls of a short sale home.

One major pitfall is how long it can take to buy a home through a short sale. It’s not uncommon for the process to take many months, and you might have to sign a short-sale addendum agreeing to wait for a period of time — 45 days, for example — until the sale is approved.

Here are the advantages and drawbacks to consider before buying a short sale home:

Pros Cons
Potential to get a great deal on a home. To avoid foreclosure, the seller needs to sell the home quickly. While you’re not likely to get a rock-bottom price — because the lender wants to recoup as much money as it can — you still might be able to score a great deal. Can take a long time. The waiting period to receive short sale approval could take months. Once you get word that the sale can go through, you’ll have to move quickly.
Home is likely to be in better condition. A homeowner in foreclosure has nothing to lose by letting the home fall into disrepair. With a short sale, the homeowner wants to sell before the lender forecloses, for a price the lender will accept, and that means the home must be in good shape. Seller is unlikely to make repairs. In traditional sales, buyers and sellers can negotiate repairs. With a short sale, the lender usually insists that the home be sold as-is, meaning you could be buying a fixer-upper.
Fewer buyers to compete with. Many buyers can’t wait for months to find out whether the lender has approved the sale. Less competition means you have a better chance of having your offer accepted. Requires lender approval. With a regular sale, you’re good to go once the seller accepts your offer. With a short sale, the seller’s lender must also approve the transaction.

How to buy a short sale home in 7 steps

Buying a short sale home is similar to buying a regular home. Here’s how to do it.

1. Learn how to find short sale homes

Your best bet is to work with an agent who’ll find the properties for you. It’s important to choose an agent based on their experience in your market, and in particular, their experience with short sales.

This includes communicating with the seller’s lender, protecting your interests as the buyer, and negotiating the best deal.

2. Research the property

Ask your agent for a comparative market analysis showing how much similar properties have sold for recently.

It’s also important to have your agent contact the listing agent to find out how many loans there are on the property. Although the title company will do a thorough title search after the lender approves the sale, it’s good to know in advance if there are junior lien holders that’ll need to sign off on the short-sale transaction.

3. Secure financing

Unless you’re paying in cash, you’ll need a pre-approval to submit an offer. It’s best to have an experienced loan officer who understands the process and the documentation requirements. You might even consider using the seller’s lender, but you may use any lender you wish.

With Credible, you can get a streamlined pre-approval letter in just three minutes — without affecting your credit score.

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4. Make an offer

The last thing you want to do is wait months for a response, and then have to start from scratch because the lender nixed the deal. Your offer should include a sizable earnest money deposit and a price you can justify with comparables.

5. Get a home inspection

A short sale home is likely to be sold as-is, so it’s vital that you know its condition. Order the home inspection from a licensed home inspector right after the seller’s lender has approved the sale. That way you’ll know what kind of repairs the home needs and if it still makes sense to purchase the home.

6. Close on the home

The title or closing agent will have all the documents you need to sign at the closing table. They’ll also provide you and the seller with a detailed list of everything you need to bring to closing.

Here’s what’s typically required from each party:

Buyer:

  • Photo ID
  • A copy of your sales agreement
  • Cashier’s check or receipt for wire transfer
  • Proof of homeowners insurance (if the title company doesn’t have it yet)
  • A copy of the closing disclosure you received prior to closing
  • Any other documents specified by the lender

Seller:

  • Photo ID
  • A copy of your sales agreement
  • Cashier’s check or wire transfer receipt for any mortgage balance due at closing
  • House key, mailbox keys, garage door openers, and other devices needed to enter the home
  • A copy of the closing disclosure received prior to closing

Is a short sale home right for you?

A short sale makes sense for buyers who have a great deal of flexibility with their closing date and are willing to wait in exchange for the chance to save money on a home purchase.

Here are some questions to ask yourself before you invest your time in a short-sale property:

  • Will waiting for lender approval cause undue hardship?
  • Am I willing to wait until after closing to make necessary repairs, and then pay for them out of pocket?
  • Is the comparatively small pool of available short sale properties too restrictive to justify the savings?

If you have any doubts after answering these questions, a short sale may not be the best fit for you.

A short sale isn’t the only way to land a great deal on a home, though. With a lower mortgage rate, you can save a bunch of money over the course of your home loan.

Credible makes it easy to find a competitive rate. With Credible, you can compare personalized prequalified rates from all of our partner lenders — and it only takes a few minutes.

About the author

Daria Uhlig

Daria Uhlig is a contributor to Credible who covers mortgage and real estate. Her work has appeared in publications like The Motley Fool, USA Today, MSN Money, CNBC, and Yahoo! Finance.

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