When preparing for a short sale should you continue paying the mortgage?

Question

My inlaws have a house that they moved out of 2 years ago. Our best guess at this point is that they are $20k underwater on it and they have no money to put towards selling it so it looks like they will list it with an RE agent as a short sale very soon.

They have stayed current on the mortgage this whole time despite being paycheck to paycheck with no money to spare.

My question is, once they have committed to pursuing a short sale on the property is there any reason at all to keep paying the mortgage?

I had previously thought that they should in order to keep from damaging their credit, but now I realize that a short sale is going to be a major hit to their credit anyway and in fact if they stop paying it might actually help their negotiator convince the bank to accept a short sale. All advice is appreciated.

Adam K. · Answer

So, I had read that a short sale was just as bad for your credit as a foreclosure. But it sounds like if you can complete a short sale with your lender without missing a payment then it must be significantly better in both the short and long term.

They have paid the mortgage for the last two years while they tried to sell. Then they tried to make an improvement to help it sell but got shoddy craftmanship (and unfinished work) and ended up with pipes freezing as a result in their vacant house and had extensive water damage as well as needing full new plumbing, heating and probably electrical. Their insurance refused the claim due to the home being vacant and them not owning the proper rider. So the house lost $10's of thousands of dollars in value and became completely unsellable for what they owe on it. And it is completely uninhabitable in its current state. They both live and work about 3 miles away in NH. And they first put it on the market in 9/12. I would think that those facts would help to demonstrate hardship as long as the lender is willing to listen. It seems silly to have to miss a payment just to strengthen their position.

Barton Wallace · Answer

Unless they think they can continue to make the payments all the way to the end of the short sale, there is really no advantage to continue paying for 3 months and then start falling behind. Make sure they look at that as well. Also, they do not have to miss a single payment in order to get their short sale approved. They just need to show "eminent default" or a verifiable hardship.

Adam K. · Answer

Thank you for such knowledgeable advice @Wayne Brooks and @Barton Wallace .

I am hearing a consensus that we need to get a special short sale RE agent on board to talk to the bank. If they can get the bank to discuss a short sale without missing a payment then they should do that in order to do everything that they can to protect their credit (I think). If not then they may need to start missing payments to help prompt a sale.

Still a tough one to solve. It could easily drag out 6 months which is $4200 and no small some for them and money that could go directly to paying off CC debt. It is truly a tough call, but I think they should continue paying.....have a few weeks until the next payment anyway and hopefully they will have someone negotiating with their lender before that.

Barton Wallace · Answer

I've done hundreds of short sales, so I'll tell you what I have told all my clients. There are costs to the Seller either way you go. The main detriment to your credit is actually getting behind on all the bills, including the mortgage. The short sale will hurt your credit, but not nearly as much as being late on the mortgage for 6 months or more and having a foreclosure filed against you. There is also NO guarantee that the bank will accept your short sale. Although I had about a 97% success rate, I can still tell you the names of the people I could not help because the banks were just not reasonable.

On the other hand, the Seller needs to also think about what they could do with all the extra money that they would not be paying to the bank. That money might go a long way towards erasing other debt, preparing for another place to live, etc. That will come with a price though. Each person needs to evaluate which way would be better for them in their situation. I never advised anyone to quit paying a mortgage, especially if they weren't behind, but it helps to know the facts before you have to make that decision.

Please do hire somebody with a LOT of experience doing short sales and not just the realtor down the street or a really nice person. Hire somebody with a great track record or don't even consider a short sale. Best of luck.

Wayne Brooks · Answer

Find an experienced short sale agent, and give him the authorization to talk to the bank.  It depends on who the investor is that owns the loan, as to whether they have be behind or not.  Some require them to be 61 days late at the time of approval.  The missed payments, often more than 20 or 30, are what make the biggest hit to credit, more so than the short sale "event" it self.  You won't know until someone knowledgable talks to the lender.

Adam K. · Answer

Thank you Phil. We spoke a couple times today. This is the East Haddam house.

This sounds like a tricky question without a clear answer. It probably helps the short sale negotiation (but how much?). It definitely hurts credit somewhat (but how much?).

And to stop paying from the moment that you decide to commit to a short sale has an obvious financial gain!

We just had a long talk about the two choices that they have. One is basically to borrow from 401k to pay the difference between what they owe and what they can sell it for, eat the loss themselves and maintain their credit (which may not be all that great anyway). The other option is to get the home sold via short sale ASAP, take the credit hit and move on. They have no goals to buy another home for at least 3 or more years anyway (if ever) so I think their best bet at this point is to go with the short sale. They are in their early 50's and now is not the time to drain a retirement account in my opinion.  They would love to settle this themselves and honor their debt, but they just don't have any money and I think that retirement accounts should be off limits in this situation.

Phil Z. · Answer

I always recommend you pay IF you can.  But that doesn't mean living on CCs or dipping into retirement accounts.

However, if you stop paying, that never hurts the short sale negotiation .. but will hurt your credit.

Adam K. · Answer

Thanks Mark! I get your newsletters and read your blogs. I appreciate you weighing in.

1. I've heard conflicting reports on this one. But I have definitely heard this as well. I think they can demonstrate hardship without missing payments.

2. This is really they key question. Does it make sense to send $600 or so per month for however long it takes to get the sale completed in order to keep their credit a few points higher. Or is their credit so shot at that point that they should just save the payments and pay down other debt like some CC's.

3. They don't live their now. They moved out 2 years ago. Then last winter their boiler stopped running in the dead of winter and their pipes froze. The  house is not even liveable or eligable for financing at this point. But yes, I've heard of people living for free for years.

Mark Ferguson · Answer

Hard to give advice on this one. I don't want to tell anyone to stop making payments.

Here are some facts I know.

1.  Most banks won't do a short sale unless the people stop making payments.

2.  The more payments you miss, the more it hurts your credit.

3.  If they stop making payments they will probably be able to stay there months or even years for free.