Troubled homeowners may be losing a major lifeline: so-called short sales. To get bad loans off their books and spur home sales, lenders have been forgiving the difference between the outstanding mortgage balance and the purchase price. Banks were never eager participants in short sales, and now financial firms—even those that can offload losses to the government—are balking at such transactions. Some lenders are forcing the sellers to pay extra money at closing. Others want a promissory note for part of the amount due.
The situation could be a setback for the already wobbly housing recovery. A record one-third of borrowers owe more on their mortgage than their properties are worth, notes research firm First American CoreLogic. The number of underwater homeowners will only continue to rise since values are still falling. And if distressed borrowers can't negotiate short sales, more may be forced into foreclosure, further depressing prices.
Since the housing bust, short sales have been a key part of the market. They accounted for 12% to 18% of national home sales over the course of this year. In such hard-hit areas as Miami and Phoenix, roughly a third of listings involve underwater mortgages, according to real estate brokerage ZipRealty.
Both sellers and lenders have seen short sales as a preferred option to foreclosure. The deals are less damaging to a borrower's credit. For banks they're generally cheaper. Homes in short sales fetch more than foreclosed properties. And lenders often have to pay tens of thousands of dollars in legal and maintenance expenses on distressed properties.
But some banks are changing their stance. With profits improving and access to capital loosening, lenders can afford to play hardball. Today banks take 9.5 weeks to respond to short-sale requests, vs. 4.5 weeks a year ago, says research firm Campbell Communications. "When the banks couldn't make payroll, it was a lot easier to deal with them," says Jake Naumer, an adviser in St. Louis who has negotiated with lenders on behalf of homeowners. "Now they want to extract every nickel." Lenders argue they have every right to pursue the money they're owed.
Las Vegas real estate agent Rob Jenson lost a deal after lenders dragged their feet. In April, buyers agreed to pay $747,000 for a five-bedroom Spanish-style home, the owner of which had $1.3 million of loans on the property. Jenson contacted the lender, Bank of America (BAC), about forgiving the remaining amount. BofA responded four months later, saying it wanted an additional $19,000 in cash from the seller, or a $38,000 promissory note payable over 10 years. Says a BofA spokesman: "A selling homeowner may be expected to reasonably participate in the shortfall on a sale, unless a financial hardship is demonstrated."
SOROS AND DELLWhen the homeowner wouldn't come up with the money, Jenson agreed to give the bank $7,500 of his commission. BofA agreed to the terms. But by then the buyer had walked away. "They're losing more money in the long run," says Jenson.
As a policy, OneWest Bank requires borrowers who sell their homes for less than the mortgage to pay part of the difference. One West, formerly IndyMac Bancorp, was taken over last year by the Federal Deposit Insurance Corp. and purchased in March by a group of investors that includes billionaires George Soros and Michael S. Dell. As part of that deal, the FDIC agreed to eat most losses after the first $2.5 billion. Given the government's broad support of One West, some real estate agents and sellers are frustrated that the lender wants a promissory note—especially in cases where the government is picking up some losses.
The lender is currently reviewing its short-sale policies. In one recent deal, One West agreed to forgo a $75,000 promissory note from the seller, 48-year-old Chris Fox, an unemployed consultant in the hospitality industry. But it did so only after Fox complained on a local TV station in Phoenix. "It drives me up a wall," says Robert G. Hertzog, Fox's real estate agent. "They were holding my client hostage." The short-sale transaction is set to close in late October. One West says it services the loan but doesn't own it, and therefore the government isn't on the hook for related losses.
The chain of creditors may be complicating short sales. If a borrower has two mortgages on a house, both lenders must approve the transaction. And the banks that hold second mortgages may be getting tougher, as their stakes get wiped out by sharply reduced property values. Bob Dalsimer, an agent in Irvine, Calif., says BofA used to accept a token amount to relinquish its claim on a short sale where it held the second mortgage. Now it's asking for 5% of the sale proceeds.
Sellers have little defense for now. Although some states prevent banks from pursuing additional claims against owners in foreclosure, there are no such rules in short sales. "We really need a more organized process," says Guy Cecala, publisher of Inside Mortgage Finance, a trade publication. In mid-May, Treasury Secretary Timothy Geithner proposed rules to encourage the transactions, including government payments to the lenders. People familiar with the matter say new federal rules could be imminent.
Borrowers who can't sell their homes often fall deeper into a hole. James Rosenthal, a 51-year-old Los Angeles film editor, has been trying to sell his house in a short-sale deal for more than a year. The servicer, One West, keeps misplacing his paperwork, he says. With income drying up, Rosenthal has fallen behind on his loan. One West says the mortgage is not eligible for federal reimbursement, and it would never intentionally delay a short sale.
In the meantime the missed mortgage payments, taxes, and late fees are piling up; as a result, Rosenthal's mortgage has ballooned by $40,000, to $425,000. "To have the government recapitalize [the lender] and get nothing in return..." he says. "The programs just aren't working" for homeowners.