Let me get this straight....a person has a condo that has a $450,000 mortgage @ 6.50% fixed with 26 years remaining; they can only sell it for $350,000. So they sell the property, but retain the loan. They apply the $329,000 (net of the 6% Realtor's commission) to the original loan, and continue paying $121,000 @ 6.50% for the next 26 years. I imagine that will bring the monthly nut down to a more reasonable payment--but then what collateral does the bank have to back the loan?
And does the bank sell the property? Or does the loan-ower sell the property?
Or am I missing something?
Or do I need another JB on the rocks?
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Shelly, I don't think you are missing it. There is no collateral of property, and depending on the amount still owed, some will walk away, but they will suffer bad credit, plus a huge IRS monster knocking on the door. In most cases, it may be easier to avoid the IRS monster and pay the reduced interest. Remember that in many cases, the now seller, had 10% down, so that would knock off another $50K if the original note was $450K, which now makes that payment somewhere around $450 per month, rather than the $3400 per month they were paying (including tax and insurance).
Now, let's say this was an investment property, and compare the above $450 per month payment to the bank on property which you no longer own, to the payment of short term capital gains on the $71,000 ($121,000 less the $50K down payment). Let's throw the short seller into the 20% tax category. $71,000 x .20 = 14,200. Now remember that tax payment comes due within one year, and will need to be thrown into your quarterly payments to the IRS, or there may be additional penalties. So on one hand, you can pay the IRS $14,200 this year, or you can keep your credit history somewhat intact and pay the bank over time, and this year, pay only about $5,400, spread out over 12 months. Which lump would you take?
As I understand it, the bank keeps the loan unchanged, except for the principle owed, and that reduces new loan origination costs, and also probably because the short seller probably wouldn't qualify for a new loan.
In most cases, the seller would be the one who sells the property, but if it is a short sale, where they couldn't foot the difference to the lender, they would need permission from the lender to go through with a short sell, and this usually requires 90 late on payments and proof of inability to be able to pay, and lack of assets.
Now that I left everyone in a heavy fog, go drink another J&B.
