Do you know the origins of the short sale? HUD (Department of Housing and Urban Development) is the organization that really kicked off this option in a big way in the United States. While some banks already approved short sale deals from time to time as a loss-mitigation measure, this wasn’t a particularly well-established alternative to foreclosure just a few decades ago. It took the federal government to bring this practice into the mainstream. The Department started experimenting with short sales back in the early 1990s to help reduce its losses on FHA backed loans. This new program was started because:
“The Department believes that a significant number of mortgagors who enter into a “defaulted” status on their mortgages would take advantage of the opportunity to sell their properties at current fair market value to a third party, to free themselves of the financial obligation that their mortgage represents, and also to avoid foreclosure.” A demonstration program was rolled out in Milwaukee, Atlanta, Denver, Houston and Phoenix to test the idea in both soft and stable markets. The program obviously worked, but HUD probably didn’t envision how popular this option would become in just a few short years!
What’s Changed With HUD Short Sales?
At that time, the term used for this type of transaction was “pre-foreclosure sale” or PFS rather than short sale. Unlike the traditional short sales process of the day where a homeowner first got an offer from a buyer and then contacted the bank, prospective participants in a PFS had to pre-qualify with HUD. Today, many banks are copying this practice from HUD. Requiring or incentivizing pre-approval tends to streamline the process and gives the lender more control over the listing price for the house from the start.
The program has evolved slightly over the last two decades. For example, in the past HUD would only accept sales that netted them 90% of the current appraised value of the property. These days, that number has dropped down to as low as 84% for houses that are on the market a couple of months without selling. In the old days, HUD required borrowers to be at least three months behind on their mortgage to qualify for a pre-foreclosure sale. Now, they can be as little as 31 days behind – potentially lessening the hit to their credit score. One thing that hasn’t changed is HUD’s recommendation that homeowners engage the services of an experienced real estate specialist to assist them with their short sale!