With foreclosures and short-sales accounting for almost half of all homes on the market in some Chicagoland neighborhoods, the poor economy of the last few years has affected virtually every area. Personally, I have seen short-sales from Maywood to South Barrington, Chicago to Wilmette and just about everywhere in between. Homeowners facing hardships such as a job loss, divorce or medical issue have become so common that many of them are being told that selling their house “short” is a quick fix. However, in Illinois, as in many states, you may still be on the hook for money owed; even long after your home was foreclosed on or a short-sale was approved.
In the case of foreclosures, if there is a difference between what is owed and what the bank can sell it for at auction, they can and are (in some cases) pursuing the difference, even years later. For short-sales (which is when the bank allows you to sell your home for less than is owed), the same rule applies and often is enforced, especially by the 2nd or 3rd mortgage holder.
For underwater homeowners in desperate need of selling their home, it is essential to get the guidance of a good Realtor, attorney and accountant.
Often, the first course of action for homeowners facing a hardship is to try and get the bank to modify the loan. If that doesn’t solve the problem or is denied, homeowners may have to attempt to sell their home “short”(for less than what they owe). Generally, short sales are put on the market just like any other listing. The main difference of course is that it is not worth what is owed and must be approved by the bank to be sold once the owner has a contract on the home.
It can take a few weeks or up to three months for banks to let sellers and buyers know if the deal is approved. Once the bank makes a determination, it will issue a demand statement, commonly called a short-sale approval letter.
“You have to read it very carefully,” said Chicago Real Estate Broker Arthur Monroe of Monroe Realty & Financial Enterprises. “It serves as the lender’s demand for payment and advises the terms of the short sale. Sellers need to make sure that the lender and/or its investors will not pursue a deficiency judgment for the difference in payment received and the total balance due. You can be sure that sooner or later they will pursue the deficiency unless agreed otherwise,” Monroe said.
According to Chicago attorney Stanley Joseph Czaja, first-mortgage holders don’t pursuer deficiencies as commonly as the holders of the second and third mortgages, because usually in a short sale all the proceeds go towards the first mortgage and the others in line get nothing.
“Every case is different but everything is negotiable,” Czaja said. “There are cases where if the 2nd mortgage holder won’t budge, it may be better for the seller to ultimately declare bankruptcy.”
Czaja, who said short-sales and foreclosures account for ninety percent of his business during the last three years, estimated that 25 percent of short-sale homeowners end up declaring bankruptcy.
It is important to note that because banks can come after the seller years down the road (Bank of America and Wells Fargo especially are doing this) –that the short-seller not give away the home just to get it sold. After all, paying back a $15,000 deficiency will not take as long as paying back a $100,000 deficiency. That said, homes can only sell for what they are worth.
Also, deficiency judgments do not have to be obtained immediately. Banks and third-party collection agencies often are waiting until debtors are on the road to financial recovery to swoop in. And once a judgment is awarded, banks and credit agencies can hound a debtor for decades. This is why it is essential to work with someone who has experience getting deficiencies waived.
Sellers should contact an experienced accountant also, because short-sales present tax consequences as well. Many may be protected from paying income tax on the deficiency because of the Mortgage Debt Relief Act of 2007. Enacted in December 2007 and running through 2012, it generally allows taxpayers to exclude income from the discharge of debt on their principal residence. Debt reduced through mortgage restructuring, as well as mortgage debt forgiven in connection with a foreclosure, qualifies for the relief.
The provision applies to debt forgiven in calendar years 2007 through 2012. Up to $2 million of forgiven debt is eligible for this exclusion ($1 million if married filing separately). The exclusion does not apply if the discharge is due to services performed for the lender or any other reason not directly related to a decline in the home’s value or the taxpayer’s financial condition.
In addition to short-sales, foreclosures are taking place at a very high rate – and in some cases because the homeowner decides to simply walk away from the home. This is something that homeowners in trouble should be wary of and something to try to avoid at all costs. For some uneducated homeowners, the attitude seems to be that if a short-sale doesn’t work the bank can have the house. This is dangerous and counter-productive for the homeowner for a couple reasons.
First, foreclosure hurts your credit more than a short-sale or bankruptcy and usually stops you from buying a new house for at least five years. In the case of short-sales, it is usually two years and for bankruptcy it varies, but one can usually start to fix his credit in a year or two. In addition, homeowners who have been foreclosed on may have trouble renting, buying a car, or getting a job. And for those who have contemplated simply walking away – your future earnings can be garnished and if you fail to respond you can end up in jail.
When it comes to short-sales and foreclosures, every case is different. What remains true however, in all of these cases, is the importance of attaining the least painful resolution. It is essential to work with a knowledgeable Realtor who keeps his client’s best interest at the forefront, an attorney who has experience negotiating with banks and getting deficiencies waived and a tax professional who is familiar with the current rules and regulations.
If you are facing financial difficulty or see trouble looming, be proactive and contact me today. I promise to put you in touch with my team of recommended professionals to resolve your issue quickly and with the least amount of damage to your credit and financial health as possible.
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