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What is a Real Estate Short Sale?

A real estate short sale is the sale of property that is worth less than what is owed on it.

How Does a Real Estate Short Sale Work?

For example, let's say John Doe buys a house for $500,000. He makes a down payment on the house and borrows $400,000 to pay for the rest. Two years later, John loses his job and has to sell the house and move. However, the housing market has slipped in his town, and the house is worth only $300,000 right now. John owes $395,000 on the loan.

Even if he sells the house for $300,000, he would pay off only $300,000 of the loan and would still owe $95,000. He would be 'short.'

A short sale often occurs when the homeowner has filed for bankruptcy and can no longer make mortgage payments. Accordingly, if John were to sell the house for $300,000, he would need the bank to agree to write off the remaining $95,000. Thus, if John finds a buyer at $300,000, his lender would need to approve the sale and could even halt the sale if it believes that the house can be sold for more than $300,000. Every dollar below $395,000 is money lost to the lender.

Why Does a Real Estate Short Sale Matter?

Short sales can be long and arduous. This is primarily because extra lenders are involved, and the bureaucracy of approving and processing a sale can scare off potential buyers who want to close on a house purchase quickly. However, buyers (that is, people who might want to buy John Doe's $300,000 house, in our example) often can get good deals on homes that are offered for short sale because lenders do not want to be in the business of owning real estate, want to get repaid as quickly as possible, and, in this case, would rather have $300,000 than foreclose on the house.

It is important to note that short sales are not the same as foreclosed properties, in which the bank already has repossessed the house from the borrower. This is important to note because foreclosed properties are often in worse condition than short-sale homes.

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Paul Tracy
Paul Tracy

Paul has been a respected figure in the financial markets for more than two decades. Prior to starting InvestingAnswers, Paul founded and managed one of the most influential investment research firms in America, with more than 3 million monthly readers.