Foreclosure v.s. Short Sale

5 Dec

In these difficult times many property owners are faced with the decision whether to opt for a short sale or let the bank foreclose? When real property is secured by a loan that has more due on it than the value of the home, the property is said to be “under water.”

When the borrower wants to sell the home he or she may try for a short sale which means the price is less than the full balance due on the loan. To do this everyone must get on board… the borrower, the new buyer, the lender, and any junior lien holders. Everyone must agree to the price and terms of sale and how the money will be allocated. When a short sale is successful the property avoids foreclosure and the owner/borrower usually will avoid any negative impact on his/her credit rating provided the lender does not report the short sale as a “loan loss” to the credit reporting agencies. But there are no guarantees and a borrower may be wise to negotiate as part of the deal, that the lender will not report the short sale to the credit agencies.

What’s the downside of a short sale aside from the issue of credit reporting? It can result in taxable income to the borrower. The difference between the property’s value and the balance on the loan may be considered “forgiveness of a debt” and this amount may be considered as taxable income. If you are contemplating trying to do a short sale make sure you check out the potential income tax consequences carefully with your accountant.

On the other side of the coin, if the borrower doesn’t believe he/she will need future credit and doesn’t care about preserving a satisfactory future credit rating, then foreclosure may be an option. It may be better to let the property go and avoid incurring  potential taxable income through a short sale. 

In short the options facing a borrower whose property is under water must be carefully weighed and considered. Conferring with your tax advisor and real estate agent before taking action is a must.

Stephen J. Gross is a business, real estate, corporate, contracts, living trusts, and asset protection attorney in West Los Angeles . To learn more please visit sjgassociates.com.

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