Broker pitfalls to short sales and land trusts in foreclosure

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Real Estate Agent with Metro Brokers Realty Oasis-BrokerIPTV

Broker Pitfall

Alternatives to foreclosures, short sales and land trusts

Mark Eibner BrokerIPTV: Well, we are here today with Jonathan Goodman with Frascona, Joiner, Goodman, and Greenstein and as always John, it is a pleasure to have you here in BrokerIPTV.

Jonathan Goodman: Thank you Mark.

Mark Eibner: And one of the subjects I called you up to talk about... we all have heard a lot of things about foreclosures and what I am really seeing a lot of as a broker is short sale transactions or short pay off transactions and I know all the brokers have heard about them, but maybe you can explain to us really what is a short pay off from legal lingo? What is a short pay off transaction? <more>

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Jonathan Goodman: Right. Well, the concept of a short pay off transaction is that a property has mortgages against it and the amount of those mortgages exceeds the property's value. There are some sellers who when that property sells, they can bring money to the table to makeup the shortfall, but very few and lenders recognize that sometimes it is in their best interest to take less then they are owed and still release the liens off the property, so that is what a short pay off is.

Mark Eibner: So what do you think... what is the real reason lenders are doing this? I mean, ultimately what are we getting at here?

Jonathan Goodman: Lenders do these things because they figure it is their best bad alternative. Of course, they have the option of foreclosing on the property, paying a lawyer, waiting the four or five months or so process while it goes through the foreclosure, then holding it, having holding costs, selling it to the market, but it is a way for a lender to cut its losses and get cash now. The idea is it is better to take your first loss early, take less now, save a bigger loss later.

Mark Eibner: So, let us talk about the next item here that is coming up with short sales and that is the short sale promoters. The promoters are out there saying that they can close your short sale transactions, they could bring investors in, and they use land trust. Why don't you explain to us how that works

Jonathan Goodman: Okay, there are two things that are going on. One thing that is going on is that traditionally a lot of the hard work putting a short sale together has been performed by the listing broker for the seller and there are service providers out there that are holding themselves out as short sale experts and they try and relieve the listing broker of the chores, the hassle, the brain damage of putting the short pay off together. They have contacts with the lenders and the like and they off load that stress from the listing broker. So, I would call them short sale service providers, but then there is another phenomenon, which is more normal and that is our promoters have short sale transactions that are setting them up as two stage transactions. So, the way it works, in my lingo, there is a homeowner, a seller A, the promoter is B, and B puts a property under contract with A at a certain price; let us say $200,000 and what B is trying to do two things at once. One of the things they are trying to do is try and get A's lender to accept the proceeds from that $200,000 sale in satisfaction of the debt. Simultaneously B is trying to find a buyer...I will call them the ultimate buyer or C to flip the property to. The idea is that B doesn't actually close and take title to the property from A until B finds a C. When B finds a C, the money comes in from C and it funds B's acquisition of the property from A. So, if B buys from A for 200, then B tries to find C to buy it for $230,000, and B gets that $30, 000 markup

Mark Eibner: Wow. So, not that there are lot of advantages for the seller to begin with on a short sale transaction... what are the pitfalls for a seller in this circumstance?

Jonathan Goodman: Well, one pitfall for the seller in this circumstance is that if B is finding C who will pay 230, what it means is, is that really if B had been working with A, working for A, then B could have found C for A to sell for, for 230. The point is that the A, the homeowner, is losing out on a sale for 230. Now, even if the property sells for 230, the A would not get anything from that sale, right? I mean that is the essence of a short sale transaction. The seller does not net anything from the sale. However, that $30,000 extra would reduce the lender's losses and therefore reduce the seller's post closing deficiency liability and potentially reduce their forgiveness of indebtedness tax consequences.

Mark Eibner: All right. So, then on the other side, what are the pitfalls for the investor, the promoter, the B buyer or B seller?

Jonathan Goodman: There are several pitfalls. First of all, there is a lot of people out there including regulators who do not like these transactions. They feel like A is being ripped off. A is not realizing the full value of the sale of the property. If the market will pay 230, A should realize the benefits of that. There are also people who think that A's lenders are being misled. They are being ripped off by $30,000. There are also people who think that C's lenders are being misled; because lenders are skeptical of flip transactions and instant appreciation and like. So, if these things go bad, if for some reason in this transaction, if somebody is unhappy in this transaction or shows up on the radar screen of regulators, people are going to be pointing the fingers of blame at the promoters, B.

Mark Eibner: So what happens when you have... I have seen a lot of these seminars where they are actually recruiting brokers to recruit other brokers for their promoter to talk to the A's of the world?

Jonathan Goodman: Right. I advice my real estate broker clients that they do not want to be the listing broker for A. If you are the broker for A, you have duties to A and A is not selling the property for as much as the market will pay; that is proven by this transaction. It is proven that the market will pay in my example 230 and A is not reaping the benefit of that. So, if I am a real estate broker or if I am advising a real estate broker, I say you do not want to be the listing broker for A. I am also saying to real estate brokers, you do not want to be the buyer's agent for B; because even if you are buyer's agent for B, you have certain duties to the seller. You have the duty to disclose adverse material facts of which you are aware and I think the fact that B is flipping it for a $30,000 profit is arguably something that has to be revealed to A. What I advice real estate brokers are if you are going to be involved in these things at all, you want to be as far away from A as possible and what that means is being the listing broker for B, trying to find C or there is nothing wrong with being the buyer's agent for C trying to buy it from B.

Mark Eibner: Wow. So, I mean in a quick sense or two what is the right way? What is full disclosure? I know we have talked about fraud, where it has to be in the contract, it has to be in the HUD, has to be disclosed to the broker... I mean the same type of guidelines that have to be followed?

Jonathan Goodman: Yes, essentially. I mean, in order for A not to be defrauded; if A signs off on paperwork which says B's goal is to get this under contract and not close until B finds a C, and B will sell it to C at a markup, and B will pocket that markup, then A is making a choice. The A's of the world are also making the best... choosing the best bad option that they have got. The A's of the world are choosing between just abandoning the house, letting it go into foreclosure, deeds in lieu of foreclosure or short pay off, and a two stage short pay off might be the best bad option that they have. So, A has the to fully understand what is going on.

Mark Eibner: Okay. Oh, great John.

Jonathan Goodman: Okay.

Mark Eibner: It is always a pleasure. Thank you very much.

Jonathan Goodman: Thank you Mark.

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