A short sale occurs when a homeowner sells a property for less than the outstanding mortgage balance, with the lender agreeing to accept the lower amount and release the mortgage lien. Short sales can benefit both buyers (potential below-market price) and sellers (avoiding foreclosure), but they require patience and understanding of a more complex process.
Why Do Short Sales Happen?
A homeowner typically pursues a short sale when they:
- Are behind on mortgage payments or facing imminent default
- Owe more on the property than it's currently worth (negative equity / "underwater")
- Have a documented financial hardship (job loss, medical bills, divorce, etc.)
- Cannot afford to make up the shortfall with their own funds
The Short Sale Process
- Listing the property: The seller lists the home with a real estate agent at a realistic market price, with a disclosure that it is a short sale subject to lender approval.
- Buyer submits an offer: A buyer makes an offer, which the seller signs. The fully executed contract is then submitted to the lender along with the seller's short sale package (hardship letter, financial statements, listing history, CMA).
- Lender review: The lender reviews the seller's hardship documentation, orders an appraisal or BPO (Broker Price Opinion), and evaluates whether to approve the short sale. This is the most time-consuming step.
- Short sale approval letter: If the lender approves, they issue a short sale approval letter specifying the terms (net proceeds they'll accept, any deficiency waiver, closing timeline).
- Closing: Once approved, closing proceeds similarly to a traditional transaction.
Timeline
Short sales are notorious for long timelines — typically 3 to 12 months from offer to closing, though some lenders have improved their short sale departments. Multiple loans (first and second mortgage) make approvals even more complex. Buyers must be prepared to wait.
For Buyers: What to Expect
- Price: Short sales may be priced below market value, but not always dramatically so — lenders order their own BPO and won't approve a price far below market.
- Condition: Short sale homes are often deferred on maintenance. Budget for repairs.
- AS IS: Short sales are almost always sold AS IS. The lender will not contribute to repairs.
- Expiration risk: If the lender's approval takes too long, prices may change, and the buyer may choose to walk away.
- Earnest money: Your deposit is at risk if you cancel after the inspection period expires. Be sure you're committed to waiting before proceeding past the inspection window.
For Sellers: Tax Implications
When a lender forgives the remaining mortgage balance after a short sale, the forgiven amount can be treated as taxable income under federal tax rules. However, there are significant exceptions — including the insolvency exception and the qualified principal residence exception (for primary residences). Consult a CPA about your specific situation before proceeding with a short sale.