How Do Short Sales and Foreclosures Compare?

No buyer wants to pay more for a home than they have to. Instead, buyers are typically on the prowl for a good deal, and some look to short sales and foreclosures in an effort to slash a few thousand dollars off the final purchase price of a home.

Both short sales and foreclosures are last resorts for homeowners who are struggling to keep up with their mortgage payments. When they default on their home loans, they either have to sell short or lose their home through foreclosure.

While this is a negative situation for homeowners, it can be a good opportunity for buyers to snag a good deal. That said, there are plenty of factors involved in buying these types of homes that can complicate the transaction.

So, what exactly are short sales and foreclosures? How are they similar? And how do they differ?

What is a Short Sale?

A short sale happens when a homeowner has trouble making their mortgage payments and resorts to selling for less than what their home is currently worth in an effort to avoid foreclosure. This situation usually happens when the homeowner owes more on the home loan than the property is currently worth.

With a short sale, the lender allows the homeowner to get out of their mortgage and avoid foreclosure by selling for less than what they would normally have fetched if selling under normal circumstances. The owner basically asks the lender to accept a lower amount than what is currently owed on the mortgage. If the lender accepts, the mortgage will be settled and the homeowner will be released from the mortgage.

Typical home sales don’t involve lenders, but with short sales, the mortgage lender is part of the process. In fact, the lender will have to approve the short sale in order for it to go through. Lenders typically prefer to deal with short sales than foreclosures because of all the expenses and red tape associated with the latter.

Obviously, the seller will want to recoup as much as possible on the sale of their home, but the ultimate goal is to be released from the mortgage without having their home repossessed.

Short sales can take anywhere between 90 to 120 days on average to close, which is longer than the average time needed to sell a home under normal circumstances. That’s because a number of details will need to be ironed out, including getting buyers to agree to cover the cost of making repairs and covering typical closing costs that would normally be paid for by sellers.

What is a Foreclosure?

When homeowners default on their mortgage and are unable to sell their home through a short sale, a foreclosure may be imminent. When this happens, the homeowner loses possession of the home, and the lender ends taking back the property. Since the home is used as collateral for the mortgage, lenders can repossess this valuable asset when borrowers default on their payments.

A Notice of Default will be filed with the local county’s office after three to six months of the homeowner missing mortgage payments. This will inform the borrower in writing of the risk of foreclosure. The homeowner then has between 30 to 120 days after receiving this notice to attempt to settle their mortgage debt with the lender.

If nothing is done about the debt owed, the lender can initiate the foreclosure process and sell the property at a foreclosure auction. Usually, these types of properties are bought without buyers actually seeing the homes or receiving any warranties.

How Do Short Sales and Foreclosures Differ?

While both short sales and foreclosures involve the homeowners vacating the premises, the end results differ somewhat. With a short sale, the homeowner still has some level of control over the sale process. Further – and perhaps more importantly – owners are still allowed to live in the home while it’s on the market until a deal is reached and the closing date arrives.

With a foreclosure, on the other hand, the owner is evicted from the premises and is left with no equity when all is said and done. Further, foreclosures usually involve many more fees, penalties, and legal costs compared to short sales.

Both short sales and foreclosures are unfortunate events. But at the end of the day, short sales can leave homeowners with fewer financial headaches than foreclosures.

The Bottom Line

Homeowners who are struggling to make their mortgage payments should seek out assistance in order to avoid a short sale or foreclosure. And for buyers, it’s it’s important to work with a real estate agent who’s well-versed in buying distressed properties in order to get a good deal and ensure the transaction is as seamless as can be.