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Community Corner

What's the Difference Between a Foreclosure and a Short Sale?

These are two options people have.

What’s the difference between a foreclosure and a short sale, you ask? Well, a foreclosure occurs when the bank has taken back possession of a house for non-payment of the mortgage. The bank may have tried to work with the owner to continue payments through a loan modification, though those are actually few and far between for all the talk you hear about the Home Affordability Program. Often, the homeowner surrenders the keys and deed, and the bank takes back the home.

Then, the bank sets about reselling the home to recover the money they are owed.  This could make for a real bargain in that a $700,000 home may have only a $500,000 mortgage. Even if the bank accounts for all of its costs to sell the home, the bank gets its money, and the new buyer gets a pretty good deal.

As for a short sale (when the bank agrees to take less than you owe), that’s a different story. Suppose you buy a home valued at $600,000. You deposit $100,000 and sign a 30-year mortgage for $500,000. After just five years, as has happened in the recent past, the value of homes like yours in your area is now $400,000. No one will buy it for $600,000, $500,000, or even $450,000. If you lose your job, get transferred, have a health catastrophe, or can no longer make the payments for another reason, selling the home is not an option. If the bank does not grant you a loan modification, allowing you to make reduced payments, you will lose the home. Currently, only a few percent of applicants are granted loan modifications, and it has taken as much as a year to get that big, fat, no!

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In both of these cases, the foreclosure and short sale, the answer seems to be for the bank to modify your loan to make it possible for you to continue to make payments.  How would that work? Well, suppose you are five years into a 30-year loan.  Perhaps they could extend the loan to 40 years, thereby reducing the payment. You get to stay in the home, make reduced payments, and the bank has one fewer of the millions of homes with much the same problem.

However, even at the reduced rate, if you have lost your job, had a medical catastrophe, a divorce, or some other evidence of the inability to make even the reduced payment, the bank will not extend the modification. So you lose all your deposit, and the years of payments made into the home. Many people stubbornly refuse to move. They feel unfairly treated by the banks who will turn around and resell the home. For individuals, this is a highly emotional experience. For the banks, it’s just business.

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