Short Sale Deficiencies Discussed

Many underwater homeowners have found that a short sale is the fastest and most permanent way to get out of a mortgage that they can no longer afford. However, in the short sale approval letter, the lender usually has some wording about the “deficiency,” which is the amount that the borrower was short on repaying the mortgage. A typical short sale deficiency (also called a “deficiency balance”) is between $50,000 and $100,000 – and sometimes much more.

But now that short sales have become a much more mainstream mortgage solution, most lenders use very clear and specific wording such as “we will waive the deficiency balance”, or that “we give up rights to pursue the deficiency,” or that “the debt has been settled.”

In addition, many lenders process their short sales through government programs. If you short sale has been processed through HAFA, FHA, or FHFA, the deficiency is automatically waived. In addition, if the investor on your loan is Freddie Mac or Fannie Mae (who are the investors on most residential mortgages) then your deficiency will automatically be waived according to the terms specified in the “Standard Short Sale” program announced by Freddie Mac earlier this year.

In many “non-recourse” states, the lender is only allowed to go after the item that secured the loan: In the case of a mortgage, they may take possession of the home, but they may not pursue you for any deficiency balance.

In recourse states, however, they may take your home and also pursue you for any deficiency balance or other costs. And some non-recourse states only give that non-recourse status to loans used as purchase money – which means that lenders may still pursue you for the deficiency on some second mortgages.

It is extremely important to try to get your lender to waive the deficiency balance when you negotiate a short sale. A deficiency judgment would be a huge burden to carry for anyone trying to get a new financial start after giving up their home through a short sale. By having the deficiency waived, you are at least free of any debt from that old home, and in a much better position to being life anew.

What if your lender will not waive the deficiency?

In rare cases, your lender will try to retain the rights to pursue you for the deficiency balance. The major lenders rarely try this, but some of the smaller credit unions may attempt to retain rights to collect the deficiency. You will know that they are not waiving the deficiency if there is wording in the short sale approval letter saying something like “we retain the rights to pursue the borrower for the deficiency balance” or “this release of lien does not constitute satisfaction of the unpaid portion of the debt.”

It is important to understand that if your approval letter only releases the lien, and does not mention the deficiency, then the deficiency balance has not been waived.

If your lender has not explicitly waived the deficiency balance in your approval letter, the first step to try is to simply ask them nicely (usually through your short sale negotiator) to do so. Many lenders want the deal to go ahead smoothly, and will add the wording if you just ask.

However, if they don’t, you still have options. First of all, even though the lender has issued a short sale approval letter, you are not required to go through with the deal. If you are not happy with the terms, you can simply not sign. Once the lender realizes that they may have to proceed with the much longer and much more costly process of foreclosure, they may reconsider.