In San Diego’s hemorrhaging real estate industry, it’s better to be upside-down and rich than upside-down and poor. That may sound axiomatic — it’s always nicer to be rich than poor — but carriage-trade folks whose homes are underwater can work the system more easily than poor folks in the same sorry situation.
The key is the short sale, in which a lender agrees to discount a loan balance when a house is upside-down — that is, the home is worth less than the balance on the mortgage. In a short sale, the homeowner sells the asset for less than the outstanding balance of the mortgage on the property, and the bank is willing to accept the lower figure, often to avoid the expense and hassle of foreclosing and dumping the property on a glutted market.
A short sale can be a good deal for the seller because, generally speaking, one’s credit record is less damaged from a short sale than a foreclosure.
I checked HouseRebate.com for information on short sale and foreclosure homes that are currently for sale. I got information on average single-family home prices from DQNews.com. Generally, there are more short sales and foreclosures in the poorer areas than the richer ones. For example, in Encanto, there are 101 foreclosures and 191 short sales on the market. In the 92067 zip code of Rancho Santa Fe, there are zero foreclosures and 7 short sales. The ratio of short sales to foreclosures is higher in the affluent areas. On a relative basis, wealthier people are taking advantage of short sales more than poor and moderate-income people are.
On the surface, this would seem to be an anomaly. “Banks check out clients to be sure they need a short sale,” says John Smith of Old Mission Mortgage. “They are not going to let Donald Trump do a short sale. They do due diligence on the client. Possibly we [have had] some very unqualified borrowers in some big homes — people buying on speculation that they could flip [sell] the house in a year.” These flippers may or may not qualify for a short sale.
Here are some examples: listed are the name of the market, the median price of a single-family home there, and the ratio of short sales to foreclosures. Coronado, $1.3 million, 5 to 1; La Jolla, $1.8 million, 5.6 to 1; Scripps Ranch, $620,000, 4.4 to 1; Tierrasanta, $499,000, 9.3 to 1; Del Mar, $1.5 million, 2.8 to 1; and Carmel Valley, $865,000, 9 to 1.
By contrast, here are prices and ratios from representative lower-scale areas: National City, $212,000, 1.8 to 1; City Heights, $221,000, 2.25 to 1; Encanto, $245,000, 1.9 to 1; Logan Heights, $147,000, 2 to 1; Golden Hill, $178,000, 2.5 to 1; Paradise Hills, $260,000, 2.4 to 1; and Lemon Grove, $263,000, 2.1 to 1.
So why do the poorer people less often take advantage of the short sale? “Look at the socioeconomic base,” says Brian Yui, whose company runs the HouseRebate.com website. “People haven’t been informed about the short sale process.” Also, the foreclosure proceeding has its advantages. The family lives in the house for three or four months essentially rent-free. Then, before seizing the property, the bank pays the household $500 to $1000 to move out.
Banks take a long time to approve a short sale. “Most real estate agents steer away from short sales,” says Smith of Old Mission. “Banks are so hard to work with. However, agents get a bigger payday on a $1.5 million property than a $250,000 one.” So there is less aversion to a short sale in the upscale areas.
The affluent “have time to make a short sale,” says Sharon Hanley, market analyst for Oceanside’s New Housing Monitor. “They realize they are upside-down. Why sit here with a million-dollar loan when their house is worth $700,000? They are in a position where they can continue to make the payments” until the bank approves the deal. The opposite is true with people in poorer markets. “They were put into these crazy loans where payments are doubling and tripling.” There is urgency. Foreclosure is the easier route, and they can’t afford to worry about their credit rating.
Those blessed with prosperity “have more access to real estate attorneys or have better lender relationships,” says Peter Reeb, president of Reeb Development Consulting. “They are better able to negotiate on their own behalf.” The home may be the third or fourth or fifth they have bought through the years. “These people know how to better protect their assets, minimize losses,” while protecting their credit rating.
Agrees Peter Q. Davis, retired San Diego banker, “I would think…that those with higher home prices may have a better understanding of the tools available to them and a stronger desire to protect their credit ratings. A lot of times the high-end folks deal with friends or associates for their loans, and this could also affect their actions.”
“One reason short sales are more successful in upscale areas is that demand is higher,” says Stan Sexton of La Mesa’s New Horizons Realty. Sophisticated buyers “can afford a more expensive home and get 30 to 40 percent off.” Both buyers and sellers “are very sophisticated people with higher incomes; they know how to play the short sale game. People at the lower end are very strapped, unemployed or underemployed. Mexicans are leaving California for Mexico. They can’t get jobs here.”
Short sales can be complicated — one reason it takes banks so long to approve them. Sexton has one client with a $1.06 million mortgage. There is one offer on the property for $790,000, one for $810,000 and two for $800,000. But the bank is holding up the deal; there is a second mortgage on the property that must be unraveled. Sexton was showing property in EastLake on which the loan is $1.2 million and the bid is $639,000. “Can you imagine the amount of money these banks are eating in short sales? And they usually lose even more on a foreclosure.”
It may take eight weeks for a bank to approve a short sale, says Sexton. But the foreclosure “is approved very quickly,” he says. One reason the bank takes a long time on short sales is it doesn’t want to foster a sweetheart deal. The homeowner may sell the house to his brother-in-law at an excessively low price. Understandably, the bank wants to get all it can out of the transaction.
“Many people try the short sale first, then go into foreclosure,” says Yui. “The bank may decide [the offer] won’t qualify.”
However, a loan in the $1.5 million range “will get attention right away,” says Smith. “It’s in the bank’s interest to work with those [affluent] people” — as long as they are playing it straight.