SAN JOSE, Calif. — For real estate professionals, short sale and foreclosure transactions can be fraught with legal hazards, and it’s important to choose your clients wisely, according to Stella Ling, managing senior counsel of the California Association of Realtors who spoke at the annual California Realtor Expo Thursday.

Short sales and REOs (real estate owned properties) accounted for nearly half of all California home sales in August, according to CAR. Last month also saw a surge of default notices nationwide, with California experiencing a 55 percent month-to-month rise — a sign of more distressed property sales to come.

Handling distressed properties, especially short sales, can take an inordinate amount of time and effort, and for this reason, Ling recommended real estate professionals learn to target consumers who are most likely to lead to successful transactions. Some knowledge of distressed property laws can help in that selection process, Ling noted.

Short sales

Because short sales have a success rate of only about 50 percent, "the best thing to do is to prescreen the short-sale listings," she said. "There is no better way to ensure your short-sale listings will go smoothly." 

She added, "You want to cater your farming efforts to the most likely candidates for short sale vs. foreclosure. You’re looking for homeowners who have refinanced in the mid-2000s."

Prescreening means steering clear of listings where a second trustee lender can come back for a deficiency through judicial foreclosure or won’t be likely to agree to a short sale, checking to see if the seller has a verifiable hardship, and whether the seller has considered bankruptcy. If the seller ends up filing for bankruptcy before the close of escrow, the listing agent is likely out of luck, Ling said.

"The bankruptcy attorney usually has their favorite agent who they like to work with," she said.

An agent can look out for clues to whether a seller is likely to file for bankruptcy — tens of thousands of dollars in credit card debt, for example, Ling said.

A recent danger is that a seller will try "reverse staging," which means the seller will trash the property in order to knock down its value. An agent should make sure the seller didn’t do the damage and back off from the transaction before becoming further entangled, Ling said.

"If a seller does reverse staging, destroying their own home, what else are they going to do? What other misrepresentations are they going to make?" she said.

Reverse staging also constitutes "waste," which exposes the seller to liability, she added.

One pitfall agents should look for is a lender asking for money from sellers in order to approve a short sale. That’s a violation of recently enacted law.

In that case, "obviously, you don’t make a decision. You have to leave it up to your seller to decide what they’re going to do," Ling said.

Agents should also keep in mind that it’s legal for lenders to ask for contributions from buyers to approve a short sale, she said.

Can a lender pursue a borrower for a deficiency after a short sale in California? No matter how many times the Internet may say otherwise, "California is not a nonrecourse state. There is the possibility of personal liability and deficiency judgment in the state of California," Ling said.

A nonrecourse state is one in which a lender cannot pursue a borrower for a deficiency — the difference between what’s owed on a mortgage loan and what the lender receives as a payoff after a short sale or foreclosure. In California, lenders cannot pursue a homeowner of a one- to four-unit dwelling for deficiency after a short sale or a nonjudicial foreclosure.

However, borrowers who have refinanced or who bought a non-owner-occupied home and go through the judicial foreclosure process are not protected against deficiency. While judicial foreclosures are very rare in California, it is up to the lender — not the borrower — to choose either judicial or nonjudicial foreclosure, so borrowers have to decide whether to take the risk, Ling said.

For potential clients unsure of whether to proceed with a short sale vs. a foreclosure, there are at least a couple of arguments in favor of short sales, Ling said.

According to FICO, a consumer with a starting FICO credit score of 720 will see his or her score drop by 130 to 150 points after a foreclosure. By comparison, that consumer’s score will drop 95 to 115 points after a short sale. FICO spells out this and further mortgage delinquency scenarios in a blog post.

"You can print it out and hand it to your clients," Ling said. "You don’t want to vouch for what FICO is saying but you can (give) them the information."

Minimum waiting periods before borrowers are eligible for a Fannie Mae loan after a foreclosure or short sale also favor short sales somewhat. Homeowners who went through a foreclosure and did not strategically default have to wait three years, compared with two years, under certain circumstances, for those who went through a short sale.

REO transactions

Questions about REO transactions on CAR’s legal hotline have picked up of late, Ling said.

She advises agents to read the REO addendum that lenders often add to purchase contracts on REOs. The addendum often erodes the rights of buyers, Ling said.

A common complaint on the hotline is that listing agents will sometimes not submit buyers’ offers to lenders. Listing agents sometimes do this in the hope that one of their own buyers will submit an offer and they’ll be able to collect a commission on both sides of the deal, Ling said.

Multiple listing service rules require listing brokers to present offers as soon as possible or give the cooperating broker a satisfactory reason for not doing so, Ling said. MLS rules also allow buyer’s agents to participate in the presentation of any offer, unless the seller objects and submits a letter to the buyer’s agent to that effect.

Buyer’s agents should quote those rules and demand that letter if the listing agent objects to the buyer’s agent being present when the listing agent presents the offer, Ling said.

And, "if the listing agents aren’t following the rules, you have to file a complaint about it. If there’s enough complaints that are filed, maybe some of these practices will go away," she added.

Tenant issues

Now that more and more troubled homeowners are turning into landlords, problematic tenants can be an issue, Ling said. In that case, listing agents should make clear that they are not responsible for property management duties such as maintenance or changing locks, she said.

"If you’ve got a problematic tenant, when the homeowner hires an unlawful detainer attorney, (the attorney and owner) are going to second-guess everything you’ve done along the way. They want a clean (case) … so you’re going to look really bad in front of your seller" if you’re causing difficulties in evicting the tenant, Ling said.

CAR offers distressed property resources at and

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