There was a rush of short sales or pre-foreclosure home sales in the third quarter of this year. RealtyTrac reported that the Chicago area saw a 34 percent increase in pre-foreclosure home sales over the second quarter and a 65 percent increase year over year.
Bank owned properties sales rose to 5,731 in the third quarter. This is a 45 percent increase from the third quarter of 2011. Across the entire country, there were 98,125 pre-foreclosure short sales and 94,934 bank-owned properties sold in the third quarter.
An increase in short sales and bank-owned properties sales is a good sign for the real estate market and economy as a whole. Potential buyers still express some concern that there is a “shadow inventory” of bank-owned properties that will eventually flood the market and drop prices again. The number of sales suggests that banks are getting more and more of these distressed properties off the books in an effort strengthen their financial positions. These sales also help prices increase in the long run. Bank-owned properties tend to sell at a lower price than a similar property sold by an individual in a non-foreclosure situation. This is referred to as the "Foreclosure Discount". As the bank-owned properties get flushed through the system, the prices on regular non-distressed properties are beginning to rise. The Foreclosure Discount has decreased in many areas of the country thus reinforcing the belief that the market is improving.
There are several factors behind the increase in pre-foreclosure short sales. Banks are now better equipped to handle short sales. Banks have now had a couple of years to work to streamline or at least improve the short sale process for sellers. The horror stories about short sales dragging out for over a year are less common now. The banks realized that pre-foreclosure short sales were a much better alternative than foreclosure. Once they realized that, along with improving the process, some banks have even offered qualified sellers incentives to short sell their homes. The foreclosure process can oftentimes take several months if not a year or longer to complete. By that time, the property could have fallen into greater disrepair thus decreasing the amount the bank eventually gets through the sale.
The short sale option gives incentives to both the owner of the home and the lender on the property to get the property sold. A short sale is not as devastating on a credit report as a foreclosure plus the seller can walk away with no debt in certain situations. The lender sells the property sooner rather than later and saves the time and costs associated with repossession and a foreclosure sale.
Another reason why the third quarter of this year in particular saw the big increase in pre-foreclosure short sales is due to the fact that the Mortgage Debt Relief Act is set to expire at the end of the year. This act does not treat the forgiven part of a loan or unpaid debt as taxable income. Once this expires, if you short sell your home and are forgiven $20,000 in unpaid debt, you would owe taxes on that amount. This is a huge motivation for individuals who are already under financial stress to get their homes sold and unpaid debt forgiven before the end of the year.
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