Are short sales really a good deal?
Let's find out exactly what kind of screamin' deal short sales are these days. And since a screamin' deal doesn't deserve its screamin' status unless it closes, let's see if short sales are closing any more frequently than they were back in 2008, when they first became a significant factor in the affordable home market.
First, let's compare the sales price per square foot of short sales, bank-owned and normal sales in one local market that's heavily impacted by distressed sellers, the downtown San Jose condo market. And let's see if short sales still sell at a premium to bank-owned, as they did the last time I crunched the numbers way back in 2008.
Sure enough, the chart confirms my "field observation" that short sales now sell for about what bank-owned sell for, and quite a bit less than normal sales. But this isn't the whole story. While it's difficult to quantify, my experience is that distressed sales, whether short or bank-owned, are more common in the lower price range. This means that you're more likely to find distressed condo sales in entry-level developments, which typically means smaller, cheaper older units in less-desirable locations. (And, for that matter, a higher delinquency rate, lower owner-occupancy ratio and, probably, more deferred maintenance.) So don't let that "distressed sale discount" fool you. Shorts and bank-owned are cheap, yes, but there's a reason, and often several reasons, any one of which might dissuade you from buying one. But if you're looking for an extremely affordable first home, or an investment property with good cash flow, then you're looking at distressed sales, including short sales. In fact, in some markets, such as downtown San Jose, if you're not looking at short sales, you're not looking at homes.
So should short sales sell for about what bank-owned sells for? Shorts don't always close—there's an understatement—and a buyer can end up waiting three long months to find out, while other opportunities come and go. Squirreliness of this sort (in any transaction, not just in real estate) usually demands a discount. However, buyers seem to have compensated for this uncertainty (or so they think) by papering the town with offers on short sales, hoping to adjust the odds in their favor—although making offers on three shorts doesn't give you a 100 percent chance of closing on one, it just gives you three iffy chances. Shorts can be in much better condition than the typical bank-owned, although most I've seen are just a beat.
The next chart backs up my contention that distressed sales are more common at the lower end of the price range.
As you can see, shorts and bank-owned are substantially smaller than normal sales, and have stayed about the same size and kept their relative positions between 2008 and 2011. The average size of normal sales, on the other hand, while still larger than distressed sales, has gotten significantly smaller since 2008. What does this mean, if anything? Probably that owners at the top end of the condo price range, where units tend to be larger, are more likely to sit out the market until prices recover. With the more affluent owners of larger condos on the sidelines, the "normal" market has shifted more toward less affluent sellers at or near the bottom of the price range. Their pockets aren't as deep, and they can't afford to wait out the market until prices recover.
As the "real estate obsessed" know (and if they don't know, they need to turn in their "Hi! I'm Obsessed!" badges) short sales have earned a poor reputation for closing. Yes, short sales often find a buyer, but that's the easy part. The hard part is getting the lender or lenders (often there are two loans) to agree to accept a "short" pay-off, one less than the outstanding balance of the loan(s).
Back in 2008 the situation was grim for short sellers.
Back then, only about 20 percent of short sales actually closed. Why did bank-owned also have a relatively low success rate in 2008? After all, isn't the main advantage of making an offer on a bank-owned property the fact that, unlike short sales, you know it'll close? Yes, but back then many if not most bank-owned were over-priced and weren't selling quickly, and it wasn't unusual to see a listing broker lose a bank-owned listing to another. Eventually the property would close, but not necessarily with the same listing broker it started with.
2011 was a lot kinder to short sellers.
Last year short sellers of downtown San Jose condos had about a 50 percent success rate, about the California average of "less than three in five", according to the California Association of REALTORS®. Obviously lenders are far more willing to accept short pay-offs than they were three years ago. But notice that the success rate worsened for normal sellers. Why? The steady erosion of prices makes it more difficult for normal sellers to be able to afford to sell. Prices of normal sales have declined about 17 percent since 2008. On the other hand, bank-owned's success rate is much higher these days, most likely because they've learned how to price their properties. Presentation of bank-owned homes is also often far better than it was in 2008, with some units painted, re-carpeted and cleaned. That's a far cry from the standard of care of three years ago: an air freshener in every room—and usually they were sorely needed.
This chart compares the success rates of the three types of sellers between 2008 and 2011.
Will the short sale closing rate ever get much better than half? That's a question I can't answer. But I have to say that some of the short sellers I've run across lately are what might be called "discretionary" short sellers. There's the retired county employee, for example, who's decided to sell so she can travel. Her condo is worth half what she paid for it, and she can't—or won't—pay off the loan balance if she sells. She's current on her mortgage payments, which suggests she's not in extreme financial distress, and lenders like their short sellers to show financial distress. And there's the short seller who's just married an Australian and wants to move there with him. Again, her motivation is more life change than financial hardship, and I don't know how sympathetic lenders are to this—or how sympathetic they should be.