Pitfalls of Short Sales & Foreclosures
Deal or no deal, should you consider purchasing a home that is a short sale, foreclosure or OREO? People are led to believe that they can save a lot of money purchasing a home that falls into one of these categories. But, what exactly does a short sale, foreclosure or OREO mean? Below are some important points to think about if you are considering including even one such home in your search.
A short sale involves the sale of a distressed asset (in this case, a residence) for an amount that is less than the outstanding mortgage against the property. It allows for the sale of homes at current market prices, thereby enabling the lender to realize the current market value of the property and also avoid a foreclosure. The lender releases its lien against the collateral and may or may not release the seller from any further liability on the debt.
DRAWBACKS OF SHORT SALES
1. Much reduced probability of sale closing:
- Expect at least three months and perhaps six to nine months from contract to close. No guaranteed closing date.
- Lender will probably not approve the contract unless it provides for an “as is” sale.
- Lender will not pay for inspections, repairs, or warranties and often will not pay for standard seller closing costs such as revenue stamps and recording the deed.
- Lender will require a comparative market analysis or a broker price opinion to determine the value of the home.
- The seller’s financial condition may not allow the seller to qualify for a short sale.
- Lender can change the terms of the sale based on market conditions or new laws and can discount commissions paid to brokers.
- Lenders are not required to disclose the condition of the homes.
- Lenders may require that the contract allow it to entertain higher offers up to the closing date.
- Money spent on inspections, loan commitments, etc., is lost if sale does not close.
- Buyer may well miss out on other opportunities.
- Existence of junior liens, unpaid taxes, HOA liens, etc., creates roadblocks and all must be cleared for the transaction to close.
- Purchaser’s lender may be reluctant to process a loan application for a transaction that may never close.
2. Title Issues:
- Title issues take on heightened importance in the sale of a distressed asset by a distressed seller.
- The sale (for all practical purposes) is “as is” with no warranty or other recourse against the distressed seller.
- Buyer’s closing attorney will likely charge some “up front” fee for dealing with this type of transaction, taking into consideration the fact that it may never close and that it may involve extraordinary title issues.
- There is much greater likelihood of title defects when dealing with a distressed seller, such as claims of lien, judgments, unpaid taxes and HOA dues.
- Not specifically a title issue, but if the property is a condo or in a planned community the HOA itself may be distressed.
A foreclosure sale is a public sale of property by a trustee exercising the power of sale contained in the mortgage. The lender sets a minimum bid in an amount that it feels is the approximate market value, less some discount. The lender will typically make only the opening bid and do no further bidding. It is a cash sale.
DRAWBACKS OF FORECLOSURE SALES
1. Bidding Process:
- Buyer will not know the lender’s opening bid until days before the sale.
- Buyer will be required to pay a 5% cash deposit at the time of the sale.
- The sale is “as is”, is all cash and becomes final after 10 days.
- Buyer will have no more than a couple of weeks to pay the balance of the bid or risk forfeiting the entire deposit.
- Buyer will not have access to the property for inspections or appraisal.
- Trustee’s deed will have absolutely no warranties and will convey the property “as is”.
- The buyer will normally be required to pay any transfer taxes.
- The buyer gets no better title than the trustee had.
- The sale is subject to unpaid taxes and all prior liens. This means buyer must have title examination completed before bidding at the foreclosure sale.
- If there happens to have been a federal tax lien and the IRS was given proper notice of the foreclosure sale, the IRS has 120 days to redeem the property. Therefore, in this situation, purchaser should make no improvements to the property for 120 days.
- Possibility of liens on fixtures such as HVAC system with priority over mortgage.
- Possibility of purchasing in a subdivision that has HOA defects such as the extinguishment of restrictions, easements and common areas as a result of a foreclosure.
OREO SALE - DRAWBACKS ON OREO SALES
- Buyer will only get such title as the lender has. The sale will be “as is” and buyer will receive a “special warranty deed”, not a “general warranty deed”.
- The foreclosure, if done properly, will have cut off liens or judgments that attached to the property subsequent to the date the mortgage was recorded, subject to the possibility of a lien on fixtures with priority over the mortgage.
- Some of the same issues as are involved in short sales as “defective” HOA, no warranty relating to the structure, etc.
Source: Horack * Talley - Attorneys at Law