Short sales is a hot buzz phrase. Some sellers who decide that their home won't sell at the price they had imagined often start to wonder if they should do a short sale. A short sale doesn't always solve problems, but it most assuredly can create problems. Short sales are not the "saving grace" some home sellers would like to believe.

What is a Short Sale?
A short sale happens when the lender is shorted on a mortgage, meaning the lender accepts less than the total amount that is due. If your mortgage is $100,000, but your home is worth, say, $90,000, you are $10,000 short, not including costs to close the sale such as real estate commissions, recording fees or title and escrow charges.

Sometimes, to avoid going through the costs of foreclosure, a lender will sanction a short sale by letting a buyer purchase the home for less than the mortgage balance in lieu of foreclosing on the property owner.

Here are sample steps of a short sale:
•Seller signs a listing agreement with a real estate agent subject to selling as a short sale with third-party approval.
•The agent finds a buyer who makes an offer for less than the amount of the mortgage.
•Seller accepts the buyer's purchase offer.
•Seller's lender accepts the buyer's purchase offer.
•Transaction closes when the buyer delivers the funds, the lender releases the lien and the seller delivers the deed.
In fairy-tale land, everybody lives happily ever after, except the seller. There are consequences.

Qualifications for a Short Sale
Before you eagerly climb aboard the short sale bandwagon, consider the following to determine whether you may qualify for a short sale. If you cannot answer yes to all four requirements, you may not qualify for a short sale.
•The Home's Market Value Has Dropped.
Hard comparable sales must substantiate that the home is worth less than the unpaid balance due the lender. This unpaid balance may include a prepayment penalty.
•The Mortgage is in or Near Default Status.
It used to be that lenders would not consider a short sale if the payments were current, but that is no longer the case. Realizing that other factors contribute to a potential default, many lenders are eager to head off future problems at the pass. •The Seller Has Fallen on Hard Times.
The seller must submit a letter of hardship that explains why the seller cannot pay the difference due upon sale, including why the seller has or will stop making the monthly payments.

A few examples that do NOT constitute a hardship are:
1. Bad purchase decisions. Blowing your paycheck on a home theater system with surround sound does not qualify as a hardship.
2. Unhappy with the neighbors. Even if every home on your block has turned into pot growing houses, that will not qualify as a hardship.
3. Buying another home. The lender will not care if you have decided the home is no longer suitable for you or your family.
4. Pregnancy. Increasing the size of your family or starting a family is not considered a hardship.
5. Moving into an apartment. If you decide to move out of your home, that is a lifestyle decision and not a very good reason to abandon your home.

Examples of hardship are:
1. Unemployment
2. Divorce
3. Medical emergency / sudden illness
4. Bankruptcy
5. Death

•Lender Documentation:
The lender will probably want to see a copy of the seller's tax returns and / or a financial statement. If the lender discovers assets, the lender may not grant the short sale because the lender will feel that the seller has the ability to pay the shorted difference. Sellers with assets may still be granted a short sale but could be required to pay back the shortfall.

For example, if the seller has cash in a savings account, owns other real estate, stocks, bonds or even IRA accounts, the lender will most likely determine that the seller has assets. However, the lender might discount the amount the seller is required to pay back.

Many entities profit from short sales, but there is no seller short sale profit.

Short Sale Consequences
A short sale is dependent on a buyer making an offer to purchase. If you do not receive an offer, you will not qualify for a short sale. So even if you meet all the other criteria, it is possible that no one will buy the short sale. It is also dependent on the lender accepting the buyer's offer. If the lender rejects the offer, a short sale will not take place.

•Tax Consequences
If the lender agrees to the short sale, the lender may possess the right to issue you a 1099 for the shorted difference, due to a provision in the IRS code about debt forgiveness. Many situations are exempt from debt forgiveness, according to the Mortgage Forgiveness Debt Relief Act of 2007.

You should speak to a real estate lawyer and a tax accountant to determine the amount of short sale tax consequences, and whether you can afford to pay those taxes, if any.

See Related Article "Short Sale Tax Consequences" by tax expert Julian Block) > CLICK HERE

•Blemished Credit Report
A short sale will show up on your credit report. It's a pre-foreclosure that has been redeemed. Short sales affect credit ratings. While the damage to your credit report may not seem as significantly bad as a foreclosure.

How is a Short Sale Seller's Credit Affected
•Foreclosure or Deed-in-Lieu of Foreclosure
Both of these solutions affect credit the same. Sellers will take a hit of 200 to 300 points, depending on overall condition of credit. This means if a seller's FICO score before foreclosure was 680, it could dip as low as 380.

•Short Sale
Streep maintains that the effect of a short sale (providing the sellers are more than 59 days late) on a seller's credit report is identical to that of a foreclosure. The ding on credit will show up as a pre-foreclosure in redemption status, Steep says, which will result in a loss of 200 points. This means a short sale with a previous FICO of 720 will see it fall to 520.

My personal experience has been somewhat different. I completed a short sale for a Sacramento seller who was 90 days behind on her mortgage. A few months after her short sale closed, she checked her credit report and found her FICO fell by only 100 points to 671. I suspect every seller's situation varies.

Waiting Period Before Buying Another Home
•Foreclosure or Deed-in-Lieu of Foreclosure
Steep says a seller who wants to buy another home after foreclosure will end up waiting about 72 to 96 months before a lender will offer any kind of interest rate that makes sense. Coy says, "The good news is a short sale will allow the consumer to obtain an institutional loan for a new home within two years".

•Short Sale
Some agents say the good news for short sale sellers is the wait is much shorter before buying another home, and Fannie Mae guidelines in 2008 adopted new procedures.

Note that Fannie Mae guidelines allow a seller to immediately apply for a new loan to buy another home if that seller kept the payments current, had no delinquencies exceeding 30 days and did not agree to repay the debt relief. Moreover, it's the late payments that affect your credit report, not the short sale.

I have my doubts about that, though. There is less damage to a credit report after a short sale involving late pays than a foreclosure. Moreover, another advantage for those with delinquencies on their credit is the ability to buy another home within 2 years over the 5- to 7-year period required for foreclosures. And there are other short sale advantages over a foreclosure. But seek legal and tax advice before making that decision.