Foreclosures vs Short Sales

You’re hearing it all around you.

“I got this house for a steal, it was a short sale”… “My friends brother bought their house for 20% below market”… “Foreclosures are the way to go for great value”…

You begin to wonder if buying a a foreclosure or short sale may be the way for you to snag your dream home or the way into your first purchase.

Its not surprising that these opportunities are speaking to people. After nearly a decade of increasing home prices the market is in full swing on its price correction and foreclosures and short sales abound. But whats the real deal with these two types of purchases and what does each entail?  Its not all roses with low low prices. Each type of purchase brings its own challenges and benefits.  Lets dissect and compare the two.

Lets start with foreclosures.

Foreclosure is a word that may be a bit more familiar to most consumers but that can mean a few things depending on the context.

Traditionally if a home was bought “at foreclosure” it means that the property was purchased at a bank or lender auction. The home may or may not have tenants and there could be other liens or money owed on the property. This form of purchasing is traditionally not one that is very popular with the average consumer. The added uncertainty, the legalities, and the requirement to provide all of the funds at the auction move this form of home buying out of reach for most consumers and into the hands of  Real Estate Investors.  This situation however is not the one most commonly thought of in today’s market when the word foreclosure is spoken.

In today’s market the most common form of foreclosure sales for normal consumers are what many professionals call an Real Estate Owned property or an REO. An REO or foreclosure in this light represents a home that has been purchased back by the lending institution that held the original note on the home. The minimum bid to cover the owed debt was not met at the traditional foreclosure auction and so the bank was forced to “purchase” the property back and to place it in their inventory. Because most banks and lenders are not in the business of owning a Real Estate portfolio these homes are quickly moved onto the normal market for resale to everyday consumers. In an effort to move these homes quickly they are often offered below market price but with the designation that they are sold “As Is”. Banks aren’t in the business of doing repairs, nor are they overly familiar with each of their properties. Because of this, banks wil trade the “uncertainty” of  the conditions and costly repairs with an alluring below market price and is why all prospective buyers of a foreclosed home should hire a professional home inspector. The name of the game with foreclosures is surpries and repairs! Minimize these two aspects and you could find yourself a gem.

Now, lets move on to short sales.

A short sale is when a homeowner decides to market their property  and the final agreed sales price between the buyer and the seller falls below what is owed to the lender for the home.  Not everyone initially decides to offer their home at a lose but more and more sellers are finding that the combination of the declining market, zero % down loans and increasing adjustable rate mortgages have pushed them into this zone.

When this occurs the contract between the two parties (the buyer and seller) must be approved by the lending institution. Often referred to as a “third party approval” this part of the process is where both buyers and sellers must have a knack for problem solving and be prepared for a long wait. Because the home has not yet been foreclosed on (ie. the home is not yet a liability for the bank) and because of the unconventional nature of this situation, response times can not only be in the weeks but are often dragged out into months. The loss mitigation department that handles these requests are often over worked and understaffed.  Often without any fault to the bank or the sellers the sales application and contract can often sit un-viewed for weeks at a time.  Once the bank does get around to reviewing the offer, there  is no guarantee that it will be approved… because of this, short sales are often considered a “waste of time”.

Why do some consider Short sales a waste of time? Often the seller does not know what price the bank will accept for an offer, until an offer is actually submitted to the bank. Because of this, short sales are often listed at prices far below their true value, in order to lure buyers into submitting an offer.

With a lowball offer in hand, the seller can then submit something to the bank for approval.  After a long wait the bank then often rejects the lowball offer and provides the seller with a “bank approved” priced. The prospective buyer, who thought they were going to get the deal of the life time then finds themselves in a frustrating position, often regretting the amount of time they spent on the process.  Of course, this is not always the case and there are ways of  mitigating the unknowns. For instance, if an offer has already gone through this process your agent may be able to get this information from the listing agent and may be able to guide you on the probability that the bank will accept your offer.  Bbecause of the uncertain in this process and its pitfalls its important to work with someone who knows the system and who can help save you time and energy. Remember the price you pay for a home is measured by more then just the purchase price!

Ultimately, this time delay and waiting game is often cited as the number one draw back for short sales and should be a real consideration when deciding if short sales should be included in your home search.

So you’ve got an idea of what each of these purchases entail, but there’s still the question… which, if either, is right for me?

There is no question that financial value can be found in both foreclosures and shorts sales. Both of these mechanisms offer homes below the normal market value. To determine however if one of these is right for you, its necessary for each buyer to review their specific situation and to see what the most important aspects are in your home search. If for instance you home search is short on time because of a relocation or job transfer the probability that a short sale will work for you is slim. Additionally if you are using a FHA or a VA loan, purchasing an “AS IS” home that may need certain repairs could also be out of your reach, as each of these loans require the home to meet specific living conditions outlined by the government.  If however your priorities are not time and or condition but ultimately are price and value then exploring both short sales and foreclosures could be an option for you.

While each buyers situation is different and should be approached with a detailed review by a real estate professional a general guideline for pursuing foreclosures is to be prepared for “AS IS” contracts and for the bank to be less flexible during negotiations. For short sales, the general guideline would be to prepare for long waits and uncertainty. With the emotional aspect of buying a home its important not to undervalue the significance of your peace of mind and your patience!

Ultimately the advice I give everyone who is considering either of these options is to surround yourself with a team of professionals that are there to assist you and who are educated on the market. From your lender, to your agent, to your title company, it is important that you have a team that knows their business and that are looking out for the most important aspect of any transaction, their Client.