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Bill's Blog

I have been thinking about short sales lately, mostly because many think we will see an increase in these types of transactions in the months to come. These are tough transactions not only because a borrower has lost their house, but because there is potentially a double whammy on the closed side of a short sale.

By definition the short sale seller’s lender (or lenders) is accepting less than is owed to release its lien upon or against the property. I am concerned here with what is still owed after closing. Consider this example:

Suppose that the seller owes $300,000.00 on a purchase money mortgage and the proceeds of a short sale only produce $275,000.00. That leaves a balance of $25,000.00 that the seller still owes. What does the lender do about this $25,000.00?

If the borrower has personal liability for this $$$$, as they would on a purchase money loan, then the lender could attempt to collect this money by all available means, including a debt action in the appropriate court. But if the lender decides not to pursue collections, this may well constitute forgiveness of the debt. Forgiveness of debt equals ordinary income for the I.R.S. Further, forgiveness may well result in the short seller receiving a 1099-C which, again, is taxable income.

So here’s where we are so far:

  1. The seller is “out from under” a house with more debt than value
  2. The seller still has liability for $25,000.00
  3. The seller may have ordinary income to the extent of $25,000.00 if the lender does not attempt to collect – this means tax liability.

With respect to the tax liability, Congress, in an effort to increase short sales and reduce the number of more harmful foreclosures, gave home owners some relief. (Please refer to the Mortgage Debt Relief Act of 2007 and to I.R.S. Publication 4681. Further, note that this legislation is currently set to expire at the end of this year but Congress is, supposedly anyway, working on an extension.)

So ok, how does this tax relief work and who can take it? First, short sale sellers can, without tax liability, have $2,000,000.00 or less of debt forgiveness on their principal residence only, i.e., where they reside. Further, the loan in question must have been for purchase money or improvements. If these criteria are met, then tax relief is available.

So, what if the short sale sellers are not able to rely on the Mortgage Debt Relief Act? There are still a couple of ways to avoid the tax liability and they both deal with insolvency, you owe more than you have asset value (really non-exempt asset value). Insolvency, in the context of a short sale, may be established by bankruptcy or certification by a C.P.A. Note that the amount of forgiven debt for which tax relief will be available equals the “amount” of insolvency. So if you owe $40,000.00 more than you own, then $40,000.00 of a cancelled debt may be excluded from your income for tax purposes.

This is a complicated area of law and my examples and musings here are provided by way of illustration. Each transaction is different and each short sale seller presents a different tax picture.

Freddie Mac reported rates are the lowest since the government-sponsored enterprise began keeping records in 1971. Today's average 30-year rate is even lower than the average 20-year or 25-year rate, which was the typical loan in the 1950s. Data from the National Bureau of Economic Research showed that between July 1950 and February 1951, long-term rates averaged 4.08 percent. This week's average 30-year rate was 3.78 percent. Mortgage rates tend to track the yield on the 10-year Treasury note, which is approximately 1.74 percent and that rate is the lowest level since the Federal Reserve Bank started keeping daily records in 1962. While it’s hard to imagine rates going lower (BUY NOW!  REFINANCE NOW!) a WSJ article points out that "Yes, interest rates can go lower".

The average annual interest rates have dropped each year for the last 5 years and are now again lower for 2012!

  • Average Interest Rate for YTD 2012 is 3.95%.
  • Average Interest Rate for 2011 was 4.45%.
  • Average Interest Rate for 2010 was 4.69%.
  • Average Interest Rate for 2009 was 5.04%.
  • Average Interest Rate for 2008 was 6.03%.
  • Average Interest Rate for 2007 was 6.34%.


About the “Primary Mortgage Market Survey® (PMMS®)
Freddie Mac's Primary Mortgage Market Survey® (PMMS®) surveys lenders each week on the rates and points for their most popular 30-year fixed-rate, 15-year fixed-rate, 5/1 hybrid amortizing adjustable-rate, and 1-year amortizing adjustable-rate mortgage products. The survey is based on first-lien prime conventional conforming mortgages with a loan-to-value of 80 percent. In addition, the adjustable-rate mortgage (ARM) products are indexed to U.S. Treasury yields and lenders are asked for the both the initial coupon rate and points as well as the margin on the ARM products. Currently, about 125 lenders are surveyed each week and the mix of lender types – thrifts, credit unions, commercial banks and mortgage lending companies – is roughly proportional to the level of mortgage business that each type commands nationwide. The survey is collected from Monday through Wednesday and the results are posted on Thursdays.

For all Loan Officers…try out Gracy's Fee Quote System

US Existing Home Sales, on a Seasonally Adjusted Basis, have increased for 11 straight months. If you exclude the increase caused by the government tax credit, this is the first time since late 2005 for the US to experience a similar sustained increase in sales.

Other highlights:

  • April existing home sales rose 3.4 percent from March 2012 and were up 10 percent from April 2011, now at a Seasonally Adjusted Annualized Rate (SAAR) of 4.62 million
  • Median home prices increased 3.1 percent from March 2012 and 10.1 percent from April 2011 (12 month moving average was up 1.1 percent year-over-year
  • Inventory is down 28.4 percent in the past 12 months, though it rose slightly sequentially from March, and currently rests at 2.54 million units for sale

There are positive signs spanning the spectrum indicating a turning real estate market despite some weak spots across the country.

Just a few days ago, USA Today reported that the number of existing homes for sales had dropped 22 percent from a year ago and now totals just 2.37 million units.  This is down 41 percent from the peak reached in mid 2007. That said, the National Association of Realtors ® reported rising prices in 74 of the 146 markets they track in the first quarter of 2012 versus declines in 72 locales. Even more significant is the dramatic decline in some of the hardest hit markets:

  • March inventory in Phoenix declined 64 percent from a year ago according to Arizona State University real estate expert.
  • NAR reports very tight inventories in Phoenix, Orange County, California, Naples, Florida, Seattle, suburban Washington, DC and North Dakota (driven by the energy boom being experienced in that state).
  • While mortgage delinquency rates remain above average (with average being 2 percent), they dropped from 6.19 percent in Q4 2011 to 5.78 percent in Q1 2012 according to TransUnion  (based on a sample of 10 percent of US mortgage holders) and are down from a 7 percent peak in Q4 2009. Click here for article.
  • All-cash transactions in Q1 2012 made up 31 of all sales—and I doubt these people would be buying and paying cash if they thought property values would decline further
  • 22 percent of all buyers were investors
  • Condominium prices rose 3.4 percent when compared to Q1 2011
  • Q1 2012 existing home sales were up 5.3 percent from the same period in 2011 and are now running at annualized rate of 4.57 million
  • Total existing home sales in Q1 2012 were at the highest level since 2007
  • reports that many of the hardest hit markets are now among the top recovering markets

Bill's Blog
This is a follow up to the "Short Sale Problems" article published on March 28, 2012.

The FHLMC has adopted an alternative for Texas and other states in which title companies are prohibited from executing the affidavit and indemnity described in my earlier transmission. We are beginning to see short sale lenders waiving the requirement that the title company sign the affidavit in exchange for an agreement by that title company not to close a sale of the subject real property for a period of 12 months following the closing of the short sale. While there are grumblings about this in many quarters; we may have a way forward.