The Truth About Short Sales, Foreclosures and Traditional Sales

The-Truth-About-Short Sales-Foreclosures-and-Traditional-SalesSince the real estate downturn in 2006 or there about; more people are aware of foreclosures.  Due to the historically high number of people affected by foreclosures, the stigma associated with foreclosures has been greatly reduced.  As a buyer, what are the advantages and disadvantages of buying a home within the short sale or foreclosure process?

Read on to learn the definition of each about the pros and cons of purchasing a home in one of these categories.

Short Sales

In a short sale, the home is worth less (current market value) than the amount of debt against it; sometimes this is called “upside down”.  A seller will usually try to short sell the home to a third party with the creditors agreeing to a lower price.  The creditors are involved in the process; from setting the price to qualifying potential buyers. 

Alternatively, some sellers will “give back” the property to the lenders as a “deed in lieu of foreclosure”.  In this case, if the lender accepts, the lender markets the property for sale. 

In the simplest short sale case, there is only a first mortgage on the home and no other liens.  In this scenario, the seller only needs to get the mortgagee to agree to accept less than what is owed on the property.  The short sale agreement can also include a release from any deficiency judgments.  A deficiency judgment is the amount creditors were owed versus what was paid to sell the property short. 

The matter can become even more complicated as a seller can also be taxed on the amount of forgiven debt by the IRS.  That’s because the amount of debt that is forgiven is seen as income by the IRS.  Nothing like kicking someone when they are already down?  There was some relief from this taxation during the height of the crisis but every situation is different and the legalities can be quite complicated.

As you can see, the more creditors involved (and even mortgage insurers) who have an interest in the deal the more complicated it can get for the seller and ultimately the prospective buyer.  It’s no simple matter to get all the players to agree to the terms to allow the deal to go through. 

Short sales are purchased “as is.” In an “as is” sale, the seller will provide legal disclosures but will not be responsible for repairs.  Sometimes, it can be difficult to get access to the property to make inspections or obtain estimates for repairs.  This can greatly increase the buyers risk.

Short sales are less detrimental to a seller’s credit than a foreclosure. A seller who has short sold a property has a much shorter waiting period for a subsequent loan than the borrower who lets a property go to foreclosure. Some borrowers can qualify for a new loan a year after a short sale.

For buyers of a short sale, be prepared for a longer purchase process then under a conventional sale.  Some deals can take months to close compared to about 30 days for a traditional sale.  The more creditors involved the more difficult the process can (and will) become.  Frequently, after months of jumping through hoops, the deal ends up dying a painful death.  Unfortunately, this time delay has tied up the buyers funds and not allowed the buyer to pursue alternative deals.

So, what is the major advantage of purchasing a short sale?  Purchasing a property for a below market price or a perceived below market price.  Unless you are an expert in evaluating real estate these deals can be very risky.  Many times when the seller is suffering financial hardship maintenance on the property is the first thing to be cut which can also lead to costly repairs or other surprises.


Most people think of foreclosures as a single status.  In fact, it is a process the lender or other creditors go through to foreclose or terminate the equitable right of redemption and take both legal and equitable title to the property. Each state’s laws can vary in the timing and the specific notices required for the foreclosure process. 

The foreclosure process is initiated once the homeowner defaults on the mortgage.  While the process can legally start after 1 missed payment; typically, lenders will wait for more than one payment to be missed.  A homeowner may default due to a loss of a job, medical conditions, divorce and a multitude of personal reasons. 


During the pre-foreclosure, the owner is in default and has likely received notices from the lender.  Depending on the state and the number of properties in foreclosure, the pre-foreclosure status can last a year or more.  The seller at this point can attempt to obtain alternate financing, sell the house, file for bankruptcy or attempt a short sale to avoid foreclosure.  Obviously, if the market value is greater than what is owed on the property, the seller will have more alternatives to deal with the situation.

Foreclosure Auction

Some states have a judicial foreclosure process and others use a non-judicial process.  The differences are the legal procedure used in each state.  Generally, if the default is not resolved, a summary judgement is obtained by the lender and there is a Sheriff sale or Auction.  Even after the auction, the home may not be “foreclosed”. 

In most states, the seller has a stated redemption period.  The redemption period is the amount of time where the “owner” can still pay all that is owed (plus fees and cost) to redeem the property and continue his ownership.  This period of time varies greatly from 10 days to two years depending on the state.  In NC, there is a twist to the auction where for up to 10 days a higher “upset bid” can be entered to become the new “winner”.  The process continues for another 10 days until no new upset bid is entered.

Real Estate Owned

If there are no 3rd party bids at auction, then the lender will obtain title (once the redemption period expires) and can sell the property.  When a lender sells a property this way, it is known as REO or Real Estate Owned. 

Like the short sale process, the foreclosure process can also become very complicated the more players who are involved.  These other interests can be 2nd mortgagees, IRS liens, Municipal liens, Home Owner Association liens, mechanic or utility service liens.  The controlling factor and procedure used to clear these liens depends on the priority of the lien.  Most commonly, priority is determined by the date of the lien.  However, municipal liens and IRS usually have a higher priority and can come before the first mortgage.

Advantages & Disadvantages

The advantages, disadvantages and risks incurred by buying a foreclosure depends on what stage of the process and how complicated the liens and priority status is. 


A pre-foreclosure sale can resemble a traditional sale by the owner to a buyer.  This usually occurs when the market value is greater than what is owned on the property.  The lender does not need to be involved and the proceeds from the sale will pay off the debt on the property.  This benefits the seller with less damage to his credit rating and eliminating having to go through the foreclosure process.  Typically, if the buyer and seller can agree on terms; it can be a quick and painless process for both parties.


Purchasing foreclosures at auction is not for the timid.  Make sure you understand all the legalities in your state of purchase.  Make sure you have a legal team that is well versed in foreclosure law for the state in question.  Also, make sure you are able to research the property to discover all junior, senior liens or encumbrances.  Making a mistake and purchasing at auction when a senior lien holder can wipe out your interest is not the way to make money in real estate.  A small mistake can cost you big if you don’t know what you are doing.  As a bidder at a foreclosure auction, there is no inspection and in most cases no way to even view the inside of the property before bidding. 


Purchasing REO from the lender lowers the risks for obtaining clear title.  Typically, the lender does not market the property until the redemption period has expired and they have ownership.  However, your title can only be as good as the lenders title.  It is important to make sure you can get clear fee simple title.  Increasingly, due to the number of foreclosures, lenders are packaging the REO’s and selling them in bulk to investors. 

In both the short sale and foreclosure purchase scenarios, the prime motivator is purchasing real estate at below market value.  The amount of discount is going to vary widely from market to market.  It will also be influenced by the number of foreclosures in that geographic area.  The actual amount of profit will depend on cost to repair and remarket the property. 

The major disadvantage is the amount of time and bureaucracy required to purchase a foreclosure or short sale and the opportunity cost of other deals not pursued as a result. 

In most cases, you will need cash or an alternative source of funds to purchase at the auction.  While you can re-finance the purchase of a foreclosure after obtaining it, most lenders will not provide the funds for purchase.

Traditional Sales

In a traditional real estate sale, the buyer and the seller agree on the price and terms for the purchase of the property. There is typically more certainty and more complete disclosures and therefore less risk involved in a traditional sale. Typically, a real estate agent will be involved and you can always hire an agent of your choice to protect your interest.  A traditional sale allows for more options and contingencies like the sale of a current home or obtaining a mortgage.

It is important to be well-informed about the real estate market and about different types of real estate sales. For more information on purchasing property in the Outer Banks, contact Eillu. We are prepared to help you with your Outer Banks real estate questions!


Yes, You Can Expect More With The Eillu Real Estate Team!

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PO Box 3009, Kitty Hawk, NC 27949
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3712 Suite B North Croatan Hwy
Kitty Hawk, NC 27949
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