Short Sales Bloom

As a foreclosure alternative, short sales are catching on as lenders and servicers deal with a huge inventory of defaulted mortgages that will continue to grow over the short term.

Citigroup mortgage analyst Robert Young believes there are three million mortgages in “suspended animation” with troubled borrowers living in homes and who haven’t made a payment for six months or more.

In addition, there is a large pipeline of loan modifications and foreclosures in progress. Mr. Young was expecting the sale of this huge inventory would overwhelm demand and drive down home prices, but it hasn’t happened yet. And he now thinks it may not happen at all.

“It seems like all the actions the banks and government have taken is to avoid this fire sale,” he said. Despite the carrying costs, “the government and the banks are managing liquidations to avoid a fire sale.”

As a result, home prices may remain relatively stable for several years. But there is a “trade-off,” Mr. Young said. “We aren’t going to see a rebound (in prices) either.”

Economists at Moody’s Economy.com don’t expect a surge in foreclosure sales this year either. They are forecasting that 1.9 million borrowers will lose their homes through foreclosure sales in 2010, compared to 1.8 million last year. However, they expect a sizeable increase in short sales and deed-in-lieu transactions. Economy.com estimates that 490,000 homeowners will use short sales and deed-in-lieu transactions as an exit strategy, compared to 300,000 in 2009.

In a short sale, the distressed borrower sells the property (for less than the outstanding mortgage) with the approval of the lender/investor and walks away debt free. In a deed-in-lieu transaction, the homeowner hands the keys over to the servicer and vacates the property.

Travis Olsen, chief operating officer of Loan Resolution Corp., says he has seen a tremendous increase in short sales in the past six months. “The industry is recognizing that many people don’t want or don’t qualify for home retention options. They want to get out.”

He said his volume of short sales has doubled in the past six months and he expects to see it double again this year. Mr. Olsen estimates the industry could see 1 million short sales and deed-in-lieu transactions this year.

Loan Resolution Corp., Scottsdale, Ariz., is working with several Home Affordable Modification Program servicers to implement Treasury’s new expedited short sale and deed-in-lieu program that provides cash incentives for homeowners, servicers and investors.

Treasury issued the guidelines in early December and servicers are expected to implement the Home Affordable Foreclosure Alternative program by April 5 or sooner. The guidance establishes procedures for HAMP servicers to provide borrowers with a pre-approved price and sale terms prior to listing the property.

Once the borrower submits a signed sales contract and all required attachments, the servicer has 10 days to accept the offer. As a vendor and outsourcer, Loan Resolution developed a similar process to handle short sales for mortgage investors and servicers. After agreeing a listing price, RLC would have the delegated authority to accept, reject or counter a buyer’s offer.

Mr. Olsen said the HAFA program will help standardize the process and expedite short sales. “You will see far more short sales get approved,” he said in an interview.

Under the HAFA program, servicers will receive a $1,000 incentive payment for each completed short sale or deed-in-lieu transaction. The former homeowner will receive $1,500 for relocation costs. Investors can receive up to $1,000 if they pay $3,000 to subordinated-lien holders that relinquish their claims. The investor’s reimbursement is based on a one-for-three match.

Subordinate-lien holders are a major hurdle to completing short sales and incentive payments are helpful, Mr. Olsen said, but $3,000 is not enough in many cases. He would like to see the maximum incentive increased to 6% of unpaid principal balance of the second lien.