Short Sales- Part II
By Phil Querin
Introduction – With an increasing number of homes selling for less than the cost of the seller’s total mortgage indebtedness, many brokers and their supervising principal brokers are encountering short sale issues they have never seen before. In legal parlance, some of these are issues of “first impression” – meaning that there is no ready answer because there is no prior precedent to rely upon for guidance.
Today, while we all have a basic understanding of what a “short sale” is, there are several not-so- easy steps to successfully completing one. And since there is no “precedent” to follow, we must forge our way carefully, with an understanding that we may frequently have to revisit, re- evaluate, and perhaps revise, some of our previously held assumptions on how short sales should be handled.
Basic Assumptions – In short sales there is an entirely new player in the transaction – the lender. And while the lender is not technically a contractual “party” to the Sale Agreement, the lender’s involvement, and ultimately its approval, is essential in order for marketable title to be delivered to the buyer.
In the “standard” real estate transaction (also known as an “equity sale” – where the seller’s equity at least covers the total indebtedness) it is normally not necessary to obtain lender consent to the sale. This is because the seller has a legal right to expect removal of the trust deed once full payoff of the promissory note is tendered into escrow for payment to the lender. In short sales, that is not the case, because the lender is being asked to release the lien of their trust deed while accepting less than a full payoff amount.
As a result of the banks’ involvement in the decision-making process – some basic assumptions no longer apply. One such assumption is that the seller and buyer want the same thing, that is, to close the transaction for a price and terms they both agree upon. In short sales, the seller’s primary goal is to sell the property as fast as they can to the a lender-approved buyer. This may not be the first buyer who makes an offer. It could, for instance, be the third potential buyer who offers all cash and no contingencies.
Another basic assumption that does not apply in short sale transactions is that both parties will jointly work toward completing the pending transaction. In short sales, since it is the lender making the final decision, the transactional process frequently favors the “last and best” offer. This approach seems at odds with traditional sales where the buyer making the first accepted offer has a contractual right to purchase the property; and the seller has a contractual duty to cooperate in making that occur.
The Seller Contingency. The underlying reason that the short sale concept is foreign to most people, especially real estate agents, is that they are not used to dealing with a seller contingency.
In the traditional transaction, virtually all of the contingencies, such as financing, inspection, title, well testing, etc., are intended to benefit the buyer – and they are within the buyer’s control to manage and complete.
However, in short sale transactions, lender consent is actually a seller contingency. This means that the seller is not required to sell to a particular buyer until the contingent event, that is, lender consent, is either satisfied, removed or waived.1
Further confusing this process is the fact that: (a) Since lenders are not contractual “parties” to
Sale Agreements, they have no legal obligation to honor any of the transactional terms already negotiated between the seller or buyer; and (b) The lender’s decision to consent to the short sale is based upon what is good for the lender, not necessarily what is good for the seller or buyer. All of this means that the lender can, in its own time and at its own discretion, dictate the financial terms of the transaction. In short, they have the power of life and death over the sale.
Here are some examples of what this means:
The seller’s, buyer’s and junior lien holder’s only options are to either: (a) Agree to the lender-
imposed conditions; (b) Try to get more money or concessions on the table so everyone buys in; or (c) Terminate the transaction.2
The Quandary. Because a short sale means that the seller is receiving no money out of the transaction, the real estate agents’ traditional roles become skewed: The listing agent’s goal now becomes obtaining the quickest sale, rather than the best price and terms; and the selling agent’s role of locking up the property for their buyer is futile if the lender insists that the property remain on the market. Thus, the entire short sale process takes on the appearance of a silent auction with sealed bids, except that no one really knows when the lender will close the bidding. (However, today, some lenders have adopted certain short sale policies which include a requirement that the buyer’s agent only submit one offer at a time. This makes the process easier and safer for the first buyer and their agent. Of course it can be frustrating for the back-up buyers who believe they have better offers than the one presently being considered by the lender.)
The quandary for real estate agents involved in short sale transactions is to continue meeting their fiduciary obligations in light of the lender’s demands. Oregon licensing law imposes certain legal duties upon real estate agents on both sides of the transaction.3 Three of these duties – which each agent owes to everyone in the transaction (not just their own principal) are honest dealing, good faith, and the duty to disclose material facts. Additionally, information the licensee knows or should know would constitute fraud if not disclosed, is required to be disclosed to the other side (and arguably to the lender), even if it is confidential information.4
While all of these general concepts are not particularly difficult for licensees to apply in standard “equity sales,” they can become blurred in short sale transactions. Here is a sampling of issues:
The reason these questions, and others, are not easily answered is: (a) Because the lender is not one of the principals in the transaction; and (b) Even in short sales, the agents continue to owe fiduciary duties to their own respective clients. Oregon’s statutory licensing laws and administrative rules give no clear direction on handling short sales. And as of the writing of this article, the Oregon Real Estate Agency had provided not clear written guidance.
Conclusion. All parties, as well as their real estate agents, must proceed carefully in short sale transactions. Brokerage companies should consider developing office policies, training and protocols, first starting with their principal brokers, so that from the top down, there is some uniformity in approach for the rank and file. This way the brokerage industry as a whole can develop a “best practices” approach to short sales. Equally important, lenders should develop their own written policies and procedures and then try to make these rules consistent on an industry wide level.
Even though many of these questions do not have ready answers, there are certain basic rules that can be followed. First and foremost, it should be remembered that even though the lender is not a party to the Sale Agreement, it will be receiving funds from the closing, and as such is a direct beneficiary of the transaction. Accordingly, the lender will be relying upon the complete and truthful disclosure of information received from escrow, the seller, and the real estate agents. Concealment of material information could create significant civil and criminal liability.5
© 2010 QUERIN LAW, LLC
1 And if it is removed or waived without the lender’s consent to the short sale, the transaction still cannot close, since the lender’s trust deed will not be removed from title.
2 Although this analysis will be left for another article, with each day’s news of banks and credit markets in trouble, there is mounting evidence that lenders are beginning to understand the need to avoid foreclosures, which only increases their already bloated REO departments.
3 ORS 696.805 and 696.810.
4 “Confidential information” is information communicated to a licensee by the principal, including but not limited to price, terms, financial qualifications or motivation to buy or sell. Excluded from this definition is (a) information the principal instructs the licensee to disclose, and (b) information the nondisclosure of which would constitute fraud.
5 Consider, for example, ORS 696.301(1) which permits the Real Estate Agency to issue sanctions against a licensee who has “Created a reasonable probability of damage or injury to a person by making one or more material misrepresentations or false promises in a matter related to professional real estate activity.”