In a recent article in the Wall Street Journal by Joe Light, it talks about the decline in house inventory created due to the drop in short sales inventory. There are references in the article to the inventory shortage being negative for some markets. Needless to say for the real estate investor, having lower inventory usually translates to appreciation. As sellers are more and more on the sidelines and the overall inventory goes down, the old supply-demand equation rears its (pretty) head resulting in price appreciation. This of course is a two-edged sword. It’s great for the properties you had already purchased, but it is not so great for the ones you eye buying in the future. The very drop in short sales itself has to do with appreciation. As houses get closer to parity with their loans, short sales don’t make sense anymore.
Another reason, of course, is the expiration (in December) of the Mortgage Forgiveness Debt Relief Act (passed by congress in 2007). With the expiration of the Act, sellers are now liable for taxes on the forgiven portion of their loans during short sales, naturally creating reluctance on the part of sellers to go that route. In the meantime we are seeing financing improving for investors and even some initial programs here and there for the foreign buyers. Stay tuned. We will be discussing the state of the market on short sales at our next Real Estate 1 Day Expo, on September 13th. You can register here.
Below, for convenience, is the entire WSJ article:
Drop in Short Sales Trims House Inventory
By Joe Light
June 20, 2014 9:43 p.m. ET
Short sales of underwater homes have fallen sharply amid the expiration of a key tax break, a situation that could slow the housing recovery and further limits an already thin supply of houses for sale. Such sales, where owners sell their homes for a price below the balance on the mortgage, reduce the number of houses that end up in foreclosure. In most cases for the sale to proceed, lenders must approve the purchase and agree to forgive the unpaid portion of the mortgage owed by the homeowner.
Short sales had been especially common in recent years in hard-hit states like Florida, Michigan and Nevada, where most homes remain valued at prices that are substantially lower than during the housing boom. In March, about 5% of home purchases nationwide—some 18,258—were short sales, according to mortgage-technology-and-services firm Black Knight Financial Services. That was down from 6.4% in February and off sharply from the 19.7%, or 51,909, that were short sales in January 2012.
This year’s drop can be traced in part to the December expiration of the Mortgage Forgiveness Debt Relief Act, which Congress originally passed in 2007. Before the act, when a home was sold through a short sale and the lender forgave a portion of the mortgage debt, the seller would typically be required to pay income taxes on the amount forgiven. The act made the forgiven debt tax-free, which paved the way for short sales and helped speed the housing recovery.
“It’s a big concern,” said Veronica Malolos, a real-estate broker in Kissimmee, Fla. Ms. Malolos said some underwater sellers delisted their properties in January and February after learning that the tax provision wouldn’t be extended. Ms. Malolos’s clients Javier and Mayra Gonzalez in Kissimmee said they tried to sell their home last summer after Mr. Gonzalez found a new job but took it off the market in the new year. The couple received offers of about $145,000 on the home, on which they owe about $206,000, including debt from a home-equity line of credit, but their bank wouldn’t accept them. Because the mortgage act wasn’t extended, the couple estimate they would owe about $15,000 in additional income taxes based on the $61,000 difference, something they say they couldn’t afford.
This year, the couple’s bank began foreclosure proceedings on their home, but they said they are working things out with the bank and are staying put, even though Mr. Gonzalez now has a commute of about an hour and 40 minutes each way to his new job in Vero Beach. Short sales also have tumbled because of rising home prices, which pushed many homes back above water or closer to it. The median existing-home price nationwide was $201,700 in April, 5.2% higher than in April 2013, according to the National Association of Realtors. In the first quarter, about 19% of homes were worth less than their mortgage, according to the real-estate-information website Zillow, down from 31% a year ago.
With would-be short sellers on the sidelines, the housing market may take longer to work through remaining underwater homes, restricting the already tight home inventory on the market. If some potential short sellers decide to go through a foreclosure instead, that could cause higher losses for mortgage-bond investors, or companies that guarantee payment of mortgages, which tend to recover less in a foreclosure because of the costs of carrying a home.
The Senate Finance Committee in April passed a bill to extend the forgiveness provision, along with many other tax breaks that had expired. But the bill stalled in May after Senate Majority Leader Harry Reid and Republicans couldn’t agree on how to amend the measure. Now some analysts don’t expect Congress to move on a bill until December, after the midterm elections. Any extension would likely come as part of a wider package of tax-break extensions. “This is trapped, and there’s little hope of prying it loose,” said Jaret Seiberg, financial-policy analyst for Guggenheim Securities LLC.
In the meantime, real-estate agents say sellers are loath to consider short sales on homes, even when facing foreclosure as the alternative. That is a problem not just for troubled homeowners, but also for banks and mortgage giants Fannie Mae and Freddie Mac, which typically lose more money when homes are sold through a foreclosure than through a short sale. In the first quarter, for example, Freddie Mac said that in short sales, it recovered 68.4 cents for every dollar of unpaid principal. In foreclosures, Freddie recovered 64.4 cents for every dollar. “There are still millions of homes underwater, but short sales have fallen off considerably,” said Mark Zandi, chief economist at Moody’s Analytics. “It’s gumming up the system” and could be limiting home-buyer activity.