When facing financial distress and an outstanding mortgage greater than the current value of their property, homeowners often turn to solutions like a short sale or a subject-to offer. While both strategies help handle properties in distress, they differ in how they relieve the seller’s financial burden and the implications for both the buyer and the seller.
In this article, we’ll explore the key differences between a short sale and a subject-to offer to help you decide which option is best for your situation.
What is a short sale?
A short sale occurs when a homeowner sells their property for less than the outstanding mortgage balance. The lender must approve the sale, typically because the homeowner is facing financial hardship and cannot afford to continue payments.
Pros of a short sale:
- Debt Forgiveness: In many cases, lenders forgive the remaining mortgage balance after the sale, giving the seller relief from owing the difference between the sale price and the mortgage.
- Avoid Foreclosure: A short sale is less damaging to the seller’s credit score than foreclosure. While it still affects credit, the impact is usually less severe and doesn’t last as long.
- Seller Relief: The homeowner can avoid the lengthy, public foreclosure process, providing them with a way out of an unaffordable mortgage.
Cons of a short sale:
- Long and Complex Process: The approval process can take months. Lenders need to review the homeowner’s financial hardship and evaluate all offers, which can delay the sale.
- Potential Rejection: The lender may reject the short sale, especially if the sale price isn’t acceptable or if the homeowner’s financial hardship isn’t convincing.
- Tax Implications: The forgiven mortgage debt might be considered taxable income, depending on the seller’s financial situation, which could result in unexpected tax liabilities.
- Seller’s Financial Risk: If the lender does not forgive the entire debt, the seller could be required to repay the deficiency through a promissory note or judgment.
What Is a subject-to offer?
A subject-to offer is a strategy where the buyer purchases a property “subject to” the existing mortgage. This means the buyer takes over the seller’s mortgage payments but does not formally assume the loan. The original mortgage stays in the seller’s name.
Pros of a subject-to offer:
- Seller’s Credit Protection: The seller’s name remains on the mortgage, but they are no longer responsible for the payments. This can prevent the loan from going into default or foreclosure.
- Faster Process: Subject-to deals are typically quicker than short sales since lender approval for the sale price isn’t required (unless a “due-on-sale” clause exists).
- No Lender Approval Needed: The buyer does not need lender approval to purchase the property, streamlining the process.
- Attractive to Investors: Investors often use the subject-to strategy to acquire distressed properties with little money down, making it a viable option for them.
Cons of a subject-to offer:
- Seller’s Continued Liability: The seller’s name stays on the mortgage, so if the buyer defaults, the seller could still be held responsible for the mortgage.
- Due-on-Sale Clause: Many mortgages have a clause that allows the lender to call the entire loan balance due if the property is sold. This can complicate or even prevent a subject-to deal from happening.
- Complicated Process: While faster, subject-to deals can be more complex legally. Buyers must conduct proper due diligence to ensure the transaction is structured correctly and that risks are mitigated.
Comparing short sale vs. subject-to offer
| Criteria | Short Sale | Subject-To Offer |
|---|---|---|
| Seller’s Credit Impact | Less damaging than foreclosure but still negative | Potentially less negative, as the mortgage remains in the seller’s name but they’re relieved of payments |
| Lender Involvement | Yes, lender must approve the sale | No approval needed unless there’s a due-on-sale clause |
| Time Frame | Can take months for approval and processing | Typically quicker, depending on buyer’s ability to close and seller cooperation |
| Debt Forgiveness | Often forgiven by lender | No debt forgiveness; seller still liable unless buyer fulfills the mortgage |
| Seller’s Liability | May owe a deficiency if debt isn’t forgiven | Seller remains liable for the mortgage unless the buyer makes payments |
| Financial Relief for Seller | Yes, if debt is forgiven | No forgiveness, but seller avoids foreclosure and is relieved of mortgage payments |
| Investor’s Role | Primarily involves homeowners, though investors may purchase | Typically involves investors who take over mortgage payments |
Which option is better for you?
For homeowners in distress
If you’re a homeowner struggling with mortgage payments and need to discharge debt without further financial liability, a short sale may be the better choice. It can offer the possibility of debt forgiveness and help you avoid foreclosure, though the approval process can take time.
For sellers seeking quick relief
If you’re looking for a faster resolution and are okay with the mortgage staying in your name, a subject-to offer might be ideal. It can be a quicker exit from an unaffordable situation, as it avoids the lengthy approval process required in a short sale. However, you’ll need to be comfortable with the fact that the mortgage remains your responsibility.
For buyers and investors
Investors often prefer subject-to deals because they allow for property acquisition with little upfront cash, while avoiding the complexities of traditional financing. However, they must be mindful of the risks associated with the due-on-sale clause and the seller’s continuing liability.
Final thoughts
Both short sales and subject-to offers provide valuable solutions for distressed homeowners, but the best option depends on individual circumstances. Homeowners seeking to discharge their mortgage debt and avoid foreclosure may prefer a short sale, while those looking for a faster exit might lean toward a subject-to offer. For investors, subject-to deals can be an attractive way to acquire properties with minimal upfront investment.
Understanding these strategies is key to making an informed decision and taking the next step in managing your property challenges. Always consult with a real estate expert to ensure you fully understand the implications of each option.
If you have any questions and want to learn more about the differences of short sale vs. subject-to offer, reach out to Jennifer Yoingco, REALTOR®, and her team, The Houston Suburb Group. They’ll help you get ready to EXPERIENCE LIVING IN HOUSTON TEXAS!
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