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There are some “infomercial gurus” who say they will teach you how to make a fortune in real estate using the method called “short selling.” And they tell you that it is an easy way to earn a lot of money. But is it just an exaggeration or is it a fact? What is the truth?
To answer this, one must look at all the facts, not just those of the night spiels. However, one thing is for sure: a short sale almost always does a great disservice to the seller.
A short sale will generally put the seller, who is already in financial trouble, in more serious trouble. The IRS code states that any discounted amount must be treated as income by the seller. For example, if the seller’s mortgage is discounted by $ 30,000, the seller will now owe the IRS the full tax on that $ 30,000, even if they haven’t received a penny! In most cases, this additional debt will force the seller into insolvency from which they may never recover.
There are those who would counter that, in certain cases, the courts have determined that the IRS cannot claim taxes in this way. But the fact is, it’s in the IRS code, which is backed by a law passed by Congress. The IRS can, and generally will, enforce the collection.
Also, in many cases, the lender may still choose to pursue the seller for the remainder of the mortgage (the discounted portion), called deficiency. Therefore, the seller no longer owns his home, but he still owes a large sum to the bank for a property he no longer owns, and he also owes a large sum to the IRS that he may not be able to pay. Frankly, no investor worthy of the name would do this to a human being.
For this reason, I do not teach this investment method; it is not necessary to cause such damage. Good profits can be made without it and with simpler methods.
Some important facts about short sales: A “short sale” occurs when a lender “discounts” the balance owed on a homeowner’s mortgage if they are in financial trouble, if they so choose. The purpose, of course, is for the homeowner to be able to find a buyer quickly, before foreclosure is necessary. Foreclosure is an expensive and time-consuming process that some lenders may want to avoid. But in most cases, lenders prefer to foreclose and then sell near market value. Why take a discount if you can get the full value? So in most cases, a short sale just isn’t going to happen.
But even in those cases where a lender may consider a short sale, the process is complicated and time-consuming, with an inordinate amount of paperwork. In other words, it is generally not worth the effort, when there are simpler methods to achieve the same and without harming the seller.
The paperwork involved is much more complex than in an ordinary transaction (see below), so one should wonder why anyone would bother. The fact is, most seasoned investors wouldn’t. It is the “infomercial gurus” who make money teaching this method that are responsible for the increase in short sale attempts. Those gurus prey on naive and unsuspecting newbies, and then those newbies, armed with this method, will go out and try to apply it, and cause substantial damage.
If you are still interested in using this questionable method, be aware that the lender will want documentation including a letter of authorization (the lender will not provide personal information about the seller or their mortgage without it); a preliminary net worksheet (estimated closing statement that includes the proposed sale price, costs of sale, unpaid loan balances, outstanding payments, and late fees and real estate commissions, if any); a letter of hardship (statement of facts showing that it is impossible for the owner to redeem himself and pay his debt, through no fault of his own); proof of income and assets (both owner and investor / buyer); copies of bank statements (both seller and buyer); a comparative market analysis showing the real value of the property; and the buyer’s contract of sale. Do you see what we mean when we say that this method is too troublesome?
You may want to keep in mind that any property that has a second mortgage will likely not qualify for a short sale. This is because it is virtually impossible to get a second lender to remove your link, and therefore you run the risk of losing your investment.
So now you know the truth about short selling. And you can probably determine that they are more problems than they are worth and that they will have dire consequences for a seller who already has his share of problems.
I have been teaching new investors for over 18 years and I only teach ethical investing methods. If you follow that example, not only will you act honorably, but you will not cause harm to anyone while benefiting enormously and earning a solid reputation as a good person to do business with.
Copyright 2007
