How Did We Get Here? Past, Present and Future of Short Sales (Part 1)

What happened over the last four years?

The real estate market bubble burst in 2007. As prices begin to drop in late 2006 and all of the Option Arm Adjustable Rate Mortgages (ARMs) began to adjust (most were 3 or 5 year fixed rates which would then adjust to a variable rate), we moved into what we called the “Subprime Mortgage Meltdown.”

It was the beginning of the perfect economic storm.

House prices began to drop and the pace of this drop continued to increase. Concerned with the effect of the housing market on the general economy, Wall Street began to follow and the Dow Jones Industrial Average dropped from an all-time high of almost 14,000 points at the end of the 3rd quarter of 2008 to a low of just over 7,000 points in the 1st quarter of 2009.

The tsunami of foreclosures began to wipe clean the unsupportable mortgages originated for borrowers who, under “traditional” underwriting standards, would never have been qualified to purchase a home or investment property. Initially originated based on the Federal Government’s attempt to address the gap in home ownership, these so-called “Liars’ Loan” programs which required no proof of income, no proof of assets and allowed refinance to more than 100% of a home’s value began to default.



The Wild West Days of short sales began

During the initial wave of the mortgage meltdown this was not a problem. The majority of borrowers initiating short sales had incomes that could never support the full payment of the Option ARM loans they took out in the first place. The number of borrowers in this position was enormous.

The challenge in addressing this phase of the tsunami rested mainly on the fact that lenders did not have the resources necessary to support the immediate and overwhelming demand for attention. They had no accepted policies or practices for negotiating settlement of these loans. Departments responsible for loss mitigation were virtually non-existent.

For roughly two years, lenders and servicers tried to keep up with the demand to settle non-performing loans while also trying to design, staff and train loss mitigation departments to handle the overwhelming demand of borrowers in trouble. Companies were formed specifically targeting homeowners in trouble. Law firms began marketing to consumers to help. Real estate companies began to claim expertise and the ability to help while creating new designations that claimed to make real estate practitioners experts in loan modifications and distressed property sales.

And so began the decline of the real estate market and the financial markets that support it. Banks and lending institutions began to fail. In 2008 there were 25 banks that were closed or taken into receivership by the FDIC; in 2009 that number increased to 140. Credit availability was severely restricted which would continue to negatively impact not only the housing market but the entire global economy.
In part 2 of this series we will look at the effect of this wave of foreclosures on homeowners that were responsible borrowers but were negatively affected by the economic downturn.