By Christian Schappel
By Christian Schappel
Of course, nobody wants to have to choose between going through foreclosure or a short sale, because it likely means you have a distressed mortgage.
But if you find yourself in that situation, a short sale is your best option, hands down
Unfortunately, however, many homeowners don’t realize that’s the case and let the far more costly and damaging foreclosure process run its course.
Benjamin Dash, founding partner of the law firm Dash Farrow, LLP, in Moorestown, N.J., which specializes in real estate business transactions, litigation and criminal defense law, said a lender recently revealed to him that in nearly three-quarters of its foreclosure cases, the homeowner never spoke to a real estate attorney or Realtor.
That’s a mistake on the part of the homeowner, Dash said.
“It’s a common reaction in foreclosure cases, to do nothing, put the keys in the mail box and walk away,” Dash explained. “But if they do nothing, that doesn’t mean nothing will happen to them.”
“What the general public doesn’t know is that 100 percent of the time, walking away, in the opinion of the IRS, because the person no longer owns the house or owes the money, becomes cancelled debt,” he continued. “The IRS treats that as income. So when you walk away, you’re going to get a huge 1099 from the IRS that has to be applied to your tax return.”
For example: If you still owe $150,000 on a home that’s foreclosed on, you’ll receive a 1099 for a $150,000 deficiency, and you’ll owe roughly a third of that in income taxes, Dash said.
Short sales, on the other hand, can dramatically alleviate that tax burden, and they usually result in less damage being done to the homeowner’s credit rating. Plus, short sales help homeowners avoid the fees, court costs and public embarrassment that come with foreclosures.
In a short sale, a home is sold for less than the debt that is owed to the lender, and it’ll result in a much lower deficiency than if the home had been foreclosed on. But this can only happen after careful negotiations with the lender.
For example: If a homeowner owes $150,000 on a home, but is able to negotiate a short sale for $100,000, than his or her deficiency is $50,000, as opposed to the $150,000 deficiency that would exist if the home were foreclosed on.
The lender would then issue a 1099 for $50,000, thus significantly lowering the homeowner’s tax burden compared to a foreclosure.
“Distressed homeowners want to mitigate their damages, and a short sale is the best way to do that,” says Alex Shnayder, president-elect of the Bucks County Association of Realtors and an attorney with Shnayder Associates, LLC, of Feasterville.
“It’s less impactful on both their credit and their ability to purchase anything again in the future,” he said, adding, “Depending on the hardship and the necessity of the short sale, I’ve seen people get a mortgage 18 months later as long as they continued to pay their mortgage until the short sale process was complete.”
He explained that the foreclosure process tends to be more harmful to homeowners’ credit because during the process they tend to stop making mortgage payments, which is what really affects credit.
“Once a property gets in that situation, people do tend to throw their hands up,” Shnayder said.
In addition to severely damaged credit, Shnayder says foreclosures also bring the element of embarrassment, because they become public record. He says a quick Google search could reveal that you’ve been foreclosed on.
Short sales, on the other hand, are not public record, which is another big reason homeowners should consider them, he said.
Just beware, Shnayder said, “the short sale process is lengthy, but it’s in (distressed homeowners’) best interests.”
“It takes lenders about 90 days, on average, to respond,” he said. “It’s anything but short.”
The advice both Dash and Shnayder have for homeowners in distressed situations: Talk to a real estate attorney and find out your options.
“Real estate attorneys can provide options,” Shnayder said. “Whether it’s getting a different loan, deed in lieu of foreclosure, a short sale.”
And if you decide to attempt a short sale, “find someone with experience doing them,” Dash said. “It’s very specialized work. It’s not something someone can dabble in.”
“You want someone aware of the tax ramifications,” he added. “Otherwise the likelihood of success will be very nominal.”