Loretta Heagy's dream of home ownership came true in October 2006, but within years, the prospect of foreclosure loomed as she became a statistic in the downfall of the American housing market. Today, though, she's part of an evolving trend — short sales — that aims to put the home-ownership world on more stable footing.
Heagy's history reads like many from the past few years. Upon buying their home on Kelsey Drive in northwest Lexington, Heagy and her partner, Shirley McDonald, took on a loan that required them to pay 20 percent of it after two years. But during those two years, Heagy's sister and niece came to live with the couple and their two children, and resources were stretched thin.
When they couldn't make the balloon payment, the only company they could find to refinance the loan required a 13.25 percent interest rate.
"Our payment doubled almost ... but we refinanced with them because we didn't want to lose our home," Heagy said recently.
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"We went into having to live off credit cards," she said. "We were buying groceries on credit cards and paying bills on credit cards.
"We tried for two years with the interest rate that ridiculous, and then we just couldn't do it anymore."
She and McDonald had paid about $110,000 for their home. Today, they owe $122,000 on the loan, she said, and they last made a mortgage payment in May 2010. But there's hope.
With the help of a real estate agent specializing in short sales, the couple have gotten permission from their lender to sell the property for $79,000, far less than the loan's amount, to satisfy the debt, with the lender forgiving the difference.
What is a short sale?
Short sales are an increasingly common real estate practice with a somewhat confusing name. It doesn't refer to the time the sale takes but that the selling price of the home falls short of paying off the existing loan. In fact, short sales rarely take a short time.
"Short sales take quite a bit longer than regular transactions," said Heagy's real estate agent, Brandi Mahon, a certified default resolution specialist with Keller Williams Realty Alternative Foreclosure Solutions.
The added time comes because lenders are involved in the process and must approve a sale after they have determined that the homeowners have a proven hardship and won't be able to pay the bills.
"Because it takes so long, the home's buyer may not want to wait that long, and it causes a lot of frustration," said Mahon, who has handled short sales since 2007. She moved here last year after working in Texas. "I have had some short sales that have taken over a year."
The concept has "moved to the forefront" over the past three years, as the country seeks to deal with a housing market in pain, said Rookard Real Estate Consultants' Jack Rookard, who has handled short sales in Lexington. For lenders, he said, a short sale is easier than dealing with the time involved in proceeding to foreclosure and the various fees associated with it.
In short sales, lenders sometimes forgive the difference between the home's sale price and the loan amount, but others require that borrowers repay the difference.
There are two other common options for homeowners in distress. The first, called deed in lieu, sees property owners sign the property's deed back to the lenders in exchange for the loan being canceled. The downside for the lender is that it must market the property for sale without assistance from the former owner.
The third option, which has received the most notoriety in recent years, is foreclosure, in which the property is sold to the highest bidder in an attempt to satisfy the debt.
A popular alternative
Fayette County Master Commissioner James Frazier III has seen a steady flow of foreclosures since the housing downturn, but he said he is now beginning to see a lot of short sales as an alternative.
As an attorney, he has handled some himself and knows the bureaucratic pains that accompany them, but he said it's becoming the preferred option for lenders.
"They recognize they can't take any more properties back," he said, pointing out that lenders are often the buyers of foreclosed properties as they seek to protect their investments. "They've got to cut the bleeding."
So far this year, Frazier has sold 245 homes in Fayette County and has seen 181 others that were scheduled for sale but canceled. The cancellations can be for a variety of reasons, including short sales, which are not specifically tracked.
Those numbers are on pace to be down from last year, when there were 649 properties sold and 529 sales canceled. Frazier attributes some of the reduction this year to lenders issuing moratoriums on foreclosures until they can verify that they have all the necessary paperwork that shows that they indeed are the owners of the loans, which have often been sold and resold as investments.
"We're sitting on hundreds we can't process," he said.
Short sales also are reducing the load, as lenders look to work with property owners to market the homes.
Mahon said she has found that about half of all homes that are eventually sold as foreclosures could have succeeded as short sales.
"A lot of times, we find that homeowners that are going through foreclosure don't know their options," she said. "A lot of my business comes from other Realtors as they go out and meet the homeowners and realize there's not a way they can sell the home for what the property owner owes."
She said some homeowners also "get intimidated by corresponding with the lender, and they may choose to ignore the phone calls and letters they're getting that give information."
Homeowners who know they have financial problems coming should seek a loan remodification first. Mahon said that even though it's the first step, it's not often that those work out. In Heagy's case, for instance, the restructured payments even on a remodified loan were too high.
If financial problems worsen, Mahon suggests seeking out a Realtor specializing in short sales "as soon as you're thinking about missing your first payment."
Rookard said the biggest hurdle for many people is recognizing that they have problems.
"If they can make the recognition that they're truly in trouble and can't resolve this on their own, that's the first step to making progress," he said. "There are a great many people who can help."
Living with a short sale
Once the process has begun, homeowners must prepare loads of paperwork to prove that they won't be able to pay back the loan.
But often, their living situations won't change. In short sales, many lenders encourage homeowners to stay in the homes, even though they're not paying on the loan. For starters, it's often considered easier to sell a home that's occupied. Routine maintenance is continued without the lender having to be involved.
It's also a good way to deter theft, Rookard said. He recalled a case in which a bank placed him in charge of a property valued at $300,000. Copper thieves came into the vacant home and took the air conditioning units, gutted all the circuit breakers, severed the lines coming into them, and cut out the home's walls to remove the metal. In one night, the $300,000 home suffered a $25,000 problem.
The benefit for homeowners is that they continue to be able to live inside the home, and they can begin to save money to start anew once the home is sold. (Unfortunately for Heagy, her family moved out last year in anticipation of their home selling, but the deal fell through.)
A short sale also is considered less damaging to a person's credit score than a foreclosure.
For all the advantages that short sales offer borrowers and lenders, however, there are some drawbacks.
For lenders, real estate buyers are becoming conditioned to expecting deals, said Steve Kelly, executive vice president of marketing and sales at Lexington's Central Bank.
"You've got folks who are trying to get unbelievable deals," he said. "Banks try to protect the value of the asset.
"In our case, no one's real happy if we sell the home at a large loss because that tends to undervalue the surrounding neighborhood, and that's not good for anyone."
For sellers, even when a short sale is successful, the paperwork doesn't end. When a lender forgives debt, that's considered implied income by the Internal Revenue Service and must be taxed.
"Talk about adding insult to injury," Frazier said. "They didn't have the income to begin with."
People can fill out a form with the government to have the taxes forgiven, but "it's just a nightmare."
"Short sales sound good but, practically speaking, they're really hard to implement," Frazier said.
From the perspective of Heagy and McDonald, her partner, you have to make sure you're working with the right people. The couple's real estate agent before Mahon was tough to reach. Ultimately, after the potential buyer last year fell through, they found Mahon.
"If you don't have an agent who stays on top of it and working it hard, you're wasting your time," Heagy said.
But the time has been well-spent, she said, because it'll be less damaging to her credit than being foreclosed upon.
"I hope to own a home again someday," she said.