With nearly 8 million home owners currently delinquent on their mortgages and the government’s HAMP program projected to only secure 35 percent to 45 percent of the promised 4 million permanent loan modification offers this year, distressed homeowners and mortgage loan servicers have to execute alternative methods in order to quell losses on both ends. This is where loss mitigation efforts step in.

According to Campbell/Inside Mortgage Finance Monthly Survey of Real Estate Market Conditions, nearly fifty percent of all home purchases in the U.S. in the past month have been pre-foreclosure distressed properties, like short sales. During February, distressed properties accounted for 48.1 percent of home purchase transactions. This is a notable decrease from November 2009’s 37.3 percent level and has also been the highest distressed property market share since July 2009. According to research director of Campbell Surveys, Thomas Popik, “Short sales now account for the No. 1 category of distressed property“.


This trend is ever more apparent in the states hardest hit by the housing downturn. According to the California Association of Realtors (C.A.R.), foreclosed homes retained by lenders and distressed short sales made up nearly half of all residential home sales in California as of late. This is a huge increase from 38% of annual transactions for such sales only a year prior. Also in Nevada, the state which may be changing from the nation’s foreclosure capital to a market full of short sales, short sales averaged 7 to 8 percent of total existing home closings in the first quarter of 2009, but averaged 22 percent of the market share in early January of this year.

Many people are proclaiming 2010 will be the year of the short sale as a means of loss mitigation. In the past, many home owners and servicers avoided short sales due to lengthy wait periods. Truthfully, short sales usually take a lot of time to negotiate and close due to the complicated and paperwork laden process. For example, in October 2009, the average time a foreclosed home spent on the market was 117 days, while homes offered as short sales spent upwards of 245 days on the market before going under contract in the same area. From application submission to approval, the short sale process is typically as follows:

    Offer submittal and complete short sale package from the seller.
    Bank recognizes reception -- 10 to 30 days.
    Bank arranges a BPO or appraisal -- 30 to 60 days.
    File is reviewed -- 30 to 60 days.
    Negotiator is appointed -- 30 to 60 days.
    Level II negotiator may be appointed -- 30 to 90 days.
    File is approved or rejected -- 60 to 120 days.

Campbell Survey‘s Thomas Popik also stated, “Losses on short sales are typically lower than for REO, and both lenders and the government are pushing programs to facilitate short sales. But as more and more people default or simply want to walk away from their properties, mortgage servicers are having trouble expeditiously processing these complicated transactions.”

Generally, lenders are becoming more skillful at short sales and attempting to decrease transaction times. However, because lenders are so swamped with short sale submissions, what once took a few months could take as much as six months up to a year to process.

Some companies are exploring other loss mitigation efforts in order to minimize their fiscal losses and keep distressed homeowners in their homes. CitiMortgage, one of the nation’s largest mortgage servicers began a new pilot initiative in 2010 to allow distressed CitiMortgage borrowers to prevent foreclosure in addition to remaining in their homes for six months if they agree to sign over their property deeds to the lender. Citi’s deed-in-lieu-of-foreclosure program is currently being piloted in Texas, Florida, Illinois, Michigan, New Jersey and Ohio. In addition to allowing home owners to remain in their homes, Citi also provides relocation assistance to help borrowers move to another residence at the end of the program and at the end of the grace period, the company also provides a minimum of $1,000 incentive to aid the borrowers in relocating. The pilot program is expected to help as many as 1,000 families and other servicers are expected to follow suit.

Unlike Citi, many banks are apprehensive to pursue mitigation efforts and allegedly have deliberately been slow to process short sale applications, because the losses are simply too great. The U.S. Treasury has constructed a program, the Home Affordable Foreclosure Alternatives Program (HAFA), which will complement the Home Affordable Modification Program (HAMP) by offering financial incentives to servicers, borrowers and investors to move forward with short sales or deed-in-lieu contracts.

HAFA will allow borrowers to obtain pre-approved short sale terms before the property is listed and excuses them from future liability for the debt. Additionally, servicers who participate in the program will be prevented from requiring a reduction in the real estate commission established in the listing agreement.

The borrower also receives a $1,500 incentive for relocation after the transaction takes place. The servicer receives a $1,000 incentive to cover administration and processing costs, and investors will receive a maximum of $1,000 for permitting up to $3,000 in short-sale proceeds to be paid out to subordinate lien holders. In total, each transaction under HAFA will cost the Treasury up to $3,500 of incentive payments. HAFA is set to officially launch on April 5, 2010, however servicers can implement the program prior to that date.

While many analysts applaud the Treasury’s effort to provide alternative foreclosure methods that allow homeowners to escape debt without declaring bankruptcy and banks to retain some percentage of their investments, much in the fashion of HAMP, the program may fall short on its promises.

In theory, HAFA sounds great. If the incentives worked, the investment pools that own many home loans would receive more cash than they would if their properties went into foreclosure. Borrowers might suffer less damage to their credit ratings and companies would be barred from suing them for unpaid balances. However, in reality, things are not expected to flow so smoothly.

Hypothetically, if the bank has a $400,000 mortgage on a house that is set to sell for $300,000 in a short sale, the government's $1,000 incentive more than likely will not be enough to give the lender a nudge to sale and lose $100,000 on the home’s value unless the bank is certain that the $300,000 deal is the best that it will ever be able to obtain for the property.

Additionally, in order for HAFA’s loss mitigation efforts to work, banks would need to increase their reserve capital in order to survive the hits to their balance sheets associated with realizing the losses the program would require. While the industry may be showing signs of improvement with recent fourth quarter gains around $1 billion, it nowhere near puts banks in any shape to stem further loan losses at this time.