The Morality of a Short Sale

Is walking away from a home when you’re upside-down immoral or simply a financial deal that didn’t work out? This question was put to the group of real estate professionals recently and the discussion, especially when it came to the million dollar market, exploded.

For many low-to-mid-range homeowners the scenario goes like this: buyer purchased a home when the market was high, with an adjustable rate mortgage and bought at the top of their game. Time goes by and the ARM resets, doubles the mortgage and blows the family out of their budgetary waters. Add a major life change; wage cut, job loss, illness with or without health insurance and our humbled buyer, sinking deeper into debt drifts closer to the mouth of foreclosure. But should a higher price point or a higher income stream make a difference?
Consider the family who buys a $1.5 million hilltop home in 2006 with the Denver market at its peak. Using a stated income loan and 5% down, they move in and comfortably pay the monthly mortgage. Over the next few years home prices decline and their $1.5M home has depreciated by $250k of its former value. In the midst of an historical banking crisis, recession hits, banks stop lending leaving the homeowner unable to make his employee payroll. He puts his home on the market, jumbo loans have all but dried up and his neighborhood’s filled with vacant spec homes selling at deep discounts or falling into foreclosure like a McMansion of cards.
There has been a lot of criticism lately of the high-end buyer, yet it may not be as cavalier as it may seem. The tricky part with a high-end short sale is that though the seller can prove hardship, they may have assets which don’t allow for bank approval. Like homeowners across the income spectrum, many of them in the million dollar range, they burn through much or all of what they’ve got, waiting for the market to turn around, in an attempt to save their FICO score and face. Is there any difference between homeowners who look at their balance sheet and realize they’ve got a liability on their hands or the option of starting over? We understand the relief for the homeowner put into an adjustable rate mortgage at 8% interest, who now has no job and no ability to refinance. But should our empathy be limited to those who purchased homes under $200,000?

Most of us begin with integrity and every intention of repaying our loan. Inherent to the process is the understanding that at its heart, buying a home is a business deal. You loan me the money, I pay you under the agreed upon terms and interest rate, if I default you have the right to redeem your secured asset, my home.

I’ve seen short sales where I’ve walked away empty-handed, scratching my head in wonder…A seller in an under $100k price point submits a short sale offer to the bank, and after waiting seven months for approval he’s denied under FHA guidelines for having too much income. In the meantime, he moved with his family to a larger home in a nicer neighborhood, courtesy of his mother-in-law. A mid-priced listing went under contract with a buyer on a VA loan and got approval from the lender on the first mortgage. The second agreed to settle, provided the seller could make one payment of $400 to keep the loan from hitting 180 days late. Though this payment was feasible for the seller, she decided against making it; she is set to file bankruptcy anyway. These are good people, making bad decisions under awful circumstances and there will always be those who try to skirt the system. But the system is set up to protect us equally and it is up to the bank to approve or deny the short sale on a case-by-case basis.
In an effort to let more Americans stay in their homes, this month the government put a new program into effect. With sellers waiting far too long before applying, loan modification under the Home Affordable Modification Program (HAMP) has done little to stem the tidal wave of foreclosures. The Home Affordable Foreclosure Alternative (HAFA) attempts to go further, offering financial incentives. Currently the seller is not allowed to take a penny from the closing table, but HAFA allows $3000 for borrower’s relocation assistance, $1500 to cover servicing costs and up to $2,000 for investors who allow a total of up to $6,000 in short sale proceeds to be distributed to subordinate lien holders, on a one-for-three matching basis. Will this help? Only time will tell, but borrowers may now receive pre-approved short sale terms before listing the property and that should help expedite the process.

So… is the short-sale-as-business-deal much different morally than an off-shore account to lower one’s taxes? Or cheating on them? I don’t know. But with tax day just behind us, it looks like we’ll all have to belly up. Equally.