What Is Real Estate Short Selling?

Today’s economic times are tough and the real estate market is showing that. Many homes are going into foreclosure or being offered by banks as a short sale. While somewhat similar to a foreclosure, a short sale has its own set of rules – and potential problems – but it has become the popular way for homeowners to relieve themselves of the burden of paying for a mortgage that they can no longer afford. A simple search online will yield thousands of short sales available.

What is a Short Sale?

A short sale is when a homeowner tries to sell their property for an amount that is less than what they currently owe on it. Not all properties qualify for a short sale. There are several reasons why a person may choose to opt for a short sale:

  • They can no longer afford the mortgage
  • The home is worth less than the mortgage on the property
  • A means of avoiding foreclosure

The one thing that buyers should be aware of is the fact that short sales are not like foreclosures in all ways. A foreclosure is when the buyer defaults on the loan and the bank is forced to remove them for the house. Other times, the buyers simply walk away from the home and stop paying the mortgage.

With a short sale, the buyers continue paying the mortgage until they are able to sell it. However, a short sale – while a bargain for those looking to purchase one – is not cut and dry. The lender must approve the sale, and oftentimes this can hold up the deal for several months. In this time, the new buyer may tire of waiting and move on to an easier sale, even if it costs them more.

What are the Consequences of Short Selling?

For the seller, there are certain ramifications that you must be aware of. If the lender approves the short sale, the balance of the loan beyond this sale price is forgiven – this is known as debt forgiveness. However, while this may sound like good news – it can have a significant impact on your taxes. Often, debt forgiveness is recognized by the IRS and must be reported as income.

This means if your mortgage is $185,000 and you sell your home for $150,000, the lender forgives the excess of $35,000. This $35,000 now reverts to the seller’s name as income and is therefore taxable. This will place the seller in a new tax bracket and will result in more taxes being owed.

For the buyer, there are no ramifications, other than the fact that the closing process may take a few months and the lender is not obligated to accept any offers. Especially not if they stand to make more money on the property by allowing it to go into foreclosure.

This introduction to short selling is written by Christina Adams, a commercial real estate writer working for ThinkBusinessSpace.com.