What Are Deficiency Balances?
If you want to sell your home for less than the amount of the mortgage, you may be able to do that by means of a short sale. With the permission of the mortgage lender, you can sell the home at today’s value, which is less than what is owed on the mortgage. The difference between the amount owed on the mortgage and the amount approved in the short sale is called ‘the deficiency.’ For example, if there is a mortgage of $250,000 and the home is sold of $200,000, the difference of $50,000 is the deficiency balance.
One of the chief concerns of short sale sellers and distressed borrowers considering listing their homes as a short sale is whether the lender will sue for the deficiency balance after the closing. Short sale sellers almost always ask about this and it is a very important topic to address prior to listing the property. It is vital that all parties—agents and sellers—understand the legal consequences of a short sale, which may differ from state to state.
Will a Short Sale Lender Pursue Deficiency?
Just like the question as to how many licks it takes to get to the center of a tootsie roll lollipop, the world will never know for certain whether the short sale lender will actually pursue deficiency. That’s why it is imperative for distressed borrowers to consult an attorney prior to selling their home in a short sale. While I cannot predict what may happen in the future with respect to the short sale lender and the deficiency balance, there are a few things that can assure that the lender will not be able to pursue deficiency after the closing.
Three Ways to Avoid Deficiency Judgments in Short Sales
- Anti-Deficiency Statutes. In California and some other states, there are anti-deficiency statutes that protect most short sale sellers from any liability for the deficiency balance after the closing of a short sale. California’s law dates back July 15, 2011, so most California short sale sellers with closings on or after that date may be protected from deficiency by this statute.
- The HAFA Program. The Home Affordable Foreclosure Alternatives Program (HAFA) is the U.S. Treasury program for distressed borrowers that want to participate in a short sale or deed-in-lieu of foreclosure. One of the best benefits (aside from the $3000 in relocation assistance) is that the lenders right to pursue deficiency is waived for all short sales approved through this program.
- Language in the Short Sale Approval Letter. No matter where you live, in order to get a short sale closed, you need to receive an approval letter. The text of the letter spells out in no uncertain terms what the bank plans to do after the closing. So, read carefully. In those letters, there may be a sentence that states something to the effect of “We reserve the right to pursue deficiency.” This is dangerous language, and anyone negotiating short sales should be advised to return to the lender and negotiate a revision or deletion of this sentence.
Deficiency Lawsuits – Agents, Be Careful
I was recently involved in conversation where another agent told me that his past client’s lender was now trying to pursue the deficiency. He was so surprised because he said that he never believed that the banks would do that, yet this same agent did not arrange for the dangerous language to be removed from the approval letter.
Agents, you need to tread very carefully in this area. Since you never know what may happen in the future, it’s always best to cross all your ‘t’s and dot all your ‘i’s. Agents from states that do not have anti-deficiency statutes need to carefully read the short sale approval letter when it arrives, share it with the sellers, and have the sellers hire an attorney to review it.
Don’t get so excited about a potential closing that you lose site of the fact that the seller could be sued! Make sure that the language in the approval letter adequately protects all parties. If you thought the short sale was long when it took six months to get approved, just wait to see how long the lawsuit will be!