Sellers in foreclosure may find themselves signing away ownership in a short sale. In some cases, a short sale is a better alternative to bankruptcy or foreclosure proceedings. Although it, too, can damage a homeowner’s credit, a short sale is viewed as far less embarrassing to a family. But not all sellers or all properties qualify for a short sale.

Before a homeowner elects to sell as a short sale, they first must compare how much they can get for their home versus how much they owe. If the market value is less, the homeowner has an “upside down” mortgage.

With the turbulent downturn in home prices over the last two years, many homeowners are disappointed to learn that standard mortgage products will not refinance property in which the homeowner has negative equity. When lenders agree to a short sale in real estate, it means the lender is accepting less than the total amount due. For this reason, not all lenders will accept short sales or discounted payoffs, especially if it would make more financial sense to foreclose.  They will weigh their losses and approve the loss that is less - for obvious reasons. 

Like a foreclosure, a short sale in real estate is not a pleasant transaction. The IRS says if you transfer title on your home, whether voluntarily through warranty deed or grant deed, or involuntarily through foreclosure, you have sold your home. And, you might be subject to taxes, even if you sold your home at a loss.

Short sale sellers who are unrepresented by an agent, should seek legal and tax advice. A short sale is subject to the existing lender’s acceptance.

For more information, visit Mortgage Foregiveness Debt Relief Act and also consult your tax accountant.  It will depend on whether you live in the residence or not and how much the home is worth.  If your lender gives you a 1099 as a result of a short sale or short refinance, you normally would be required to pay taxes on the amount they wrote off.  However, now through 2012, you may be exempt.  Please review the IRS website and see if you qualify.  This could drastically change your decision to short sale or short refinance your home.  If you are exempt, make sure your accountant files the Form 982 with your 1099 so that you do not incur a penalty or have to pay taxes down the road.