What Is a Short Sale and How Does It Work?
A short sale occurs when a homeowner sells their property for less than what they owe on their mortgage. For sellers, it’s a way to avoid foreclosure if they can no longer afford their mortgage payments. For buyers, it’s a chance to purchase a home at a discount. Learn more about short sales and what they mean for both homebuyers and sellers.
Key takeaways
- A short sale transaction can help homeowners avoid foreclosure.
- Buyers may qualify to purchase a short sale property for less than its market value.
- It can take up to six months to complete a short sale.
What is a short sale in real estate?
A short sale is when a homeowner sells their home for a price that falls “short” of the outstanding loan amount owed to their mortgage lender. The lender uses the proceeds to cover the majority of the borrower’s mortgage balance when the house is sold. In some cases, the lender may forgive the remaining debt (known as the “deficiency”). Short sales can take up to six months to close.
A seller may consider a short sale if:
→ They are upside-down on their mortgage, can no longer afford their monthly payments and wish to avoid foreclosure.
A buyer may consider a short sale if:
→ They want to buy a home for a (potentially) lower price and are willing to deal with a longer closing process.
Short sales can occur when a homeowner is either behind on their mortgage payments or underwater on their mortgage, meaning they owe more on the loan than their home is worth. Though not as common as they were during the Great Recession of 2008, short sales do still occur.
One of the main drawbacks for homeowners is that they typically must wait two to four years after a short sale before buying another home with a conventional loan or FHA loan, while there often isn’t a waiting period for VA loans. However, your individual waiting period will vary depending on your credit history and lender.
Let’s say you owe $350,000 on your mortgage. Your lender agrees to a short sale, and because home prices have dropped since you bought the home, you’re unable to find a buyer who will pay more than $275,000.$350,000 – $275,000 = $75,000.
Your deficiency is $75,000. The lender will either forgive this amount or require you to pay the balance.
Short sale vs. foreclosure
Both short sales and foreclosures involve a homeowner losing their property. However, a short sale is often seen as preferable to foreclosure for the following reasons:
- The homeowner voluntarily initiates a short sale, while the lender initiates a foreclosure
- All or most of your mortgage debt will be paid off from the short sale proceeds, and your lender may forgive the remaining amount
- A short sale may have a less severe impact on your credit score than a foreclosure
- You may have a shorter waiting period for buying a home after a short sale than buying a home after foreclosure
How does a short sale work for sellers?
Here’s what the short sale process may look like for homeowners:
- Submit a short sale application to your lender. If you’re a homeowner considering a short sale, the first step is to contact your lender for approval. You’ll likely need to provide proof of financial hardship, including bank statements or a termination notice from your employer.
- List your home for sale. Hire a real estate agent to list your home in the multiple listing service (MLS) database. Ideally, you’ll want to work with an agent who is experienced in short sales.
- Send offers to your lender. As the homeowner, you’re responsible for selling the property. However, the lender handles negotiations and must sign off on any purchase offers you receive.
- Complete the sale. After you receive an offer (and the lender approves it), the closing process begins. You won’t receive any money from your home sale, and you may still owe a balance to your lender.
Short sale pros and cons for sellers
| Pros | Cons |
|---|---|
| Your credit score may take less of a hit than with a foreclosure. | You won’t walk away with any money from the home sale. |
| You may have part of your debt forgiven. | You may still owe a balance after the short sale is complete. |
| You may be able to get another mortgage faster than you would with a foreclosure. | Your credit will be damaged and may not fully recover for several years. |
| You’ll be closer to becoming debt-free than you were before the short sale. | You may have to wait a number of years before you can finance another house. |
How does a short sale work for buyers?
If you’re interested in buying a short sale home, here’s what the process may look like:
- Get a mortgage preapproval. Lenders will want to see that you’re financially prepared to buy the property. Securing a mortgage preapproval can help demonstrate your seriousness as a buyer and strengthen your offer.
- Find a home. Start by searching online for “preforeclosure” homes in your area. Some real estate marketplace websites offer filters that allow you to specifically search for these types of properties. In addition, working with a real estate agent who specializes in the short sale market can be helpful.
- Make an offer. When you find a home you’re interested in, submit an offer just as you would with a traditional home sale. Be sure to include your preapproval letter with your offer.
- Do your due diligence. Before officially buying the property, you’ll want to do your research to ensure it’s a good investment. This may involve a title search to ensure there are no liens on the home, and an inspection to learn more about the property’s condition.
- Close on the home. If all goes well, the lender will accept your offer, and you’ll enter the closing process. Similar to a traditional home sale, you can expect to pay closing costs.
Short sale pros and cons for buyers
| Pros | Cons |
|---|---|
| You can buy a home for less than its market value. | The process can take several months to complete. |
| Sellers are more likely to offer concessions to speed up the sale. | You won’t be able to negotiate repair costs because short sales are sold “as-is.” |
| Short sale homes may require fewer repairs than foreclosure properties. | It can be challenging to find an experienced real estate agent. |
| Short sale homes may have less competition than regular home sales. | Short sales aren’t always cheaper than regular home sales. |
Is a short sale right for you?
For sellers
A short sale may be worth considering if you’re upside-down on your mortgage, struggling to make your payments and don’t qualify for a loan modification or forbearance. However, if you have equity in your home, selling it through traditional means is typically the better option, since it allows you to walk away with proceeds from the sale.
For buyers
Short sales can be appealing because they may offer an opportunity to buy a property at a lower price. Further, sellers are usually highly motivated to sell in these situations, which could lead to favorable terms or concessions.
Whether you’re a buyer or seller, it’s important to assess your specific situation and needs and understand the benefits and risks of short sales before making a decision.
Short sale alternatives
A short sale isn’t the only option for homeowners struggling to make their payments. Some alternatives to consider include:
→ Loan modification. If you’re struggling with your mortgage payments, consider negotiating a loan modification with your lender. This may involve reducing your mortgage rate or extending your loan term to make your payments more manageable. Contact your lender to learn more about this option.
→ Refinancing. Replacing your existing mortgage with one that has better terms can help make your monthly payments more affordable. However, it can be challenging to qualify for a refinance if you’re already past-due on payments.
→ Deed in lieu of foreclosure. Another way to avoid foreclosure is to voluntarily transfer your home’s title to the lender — this is known as a deed in lieu of foreclosure. In exchange for handing the property over amicably, the lender releases you from your mortgage obligations. A deed-in-lieu will still damage your credit, but the impact isn’t as severe as a foreclosure.
Ready to compare refinance offers? Get Your Best Rates from Top Lenders TodayFrequently asked questions
It depends on the lender. Once a bank receives an offer on a home, it can take several months for them to make a decision. When deciding whether to approve a short sale, a lender will review your financial situation to confirm that you’re unable to repay your mortgage.
A short sale can typically take anywhere from three to six months. The extended timeline may be due to the more in-depth negotiation and approval process, especially if you have a second mortgage.
A short sale can negatively affect your credit, though the exact impact depends on your overall credit history. Your mortgage account will show as “settled” on your credit report, and this mark can stay on your credit for up to seven years.
You may still owe money after a short sale. In some cases, the lender may take legal action against you to collect the remaining balance — this is called a deficiency judgment. Some states, including California and Nevada, prohibit deficiency judgments after short sales in specific circumstances.