Here’s the set up. Your seller owns a home that you sold to them 5 years ago. It has a mortgage on it for $350,000 but the house is now worth $175,000. Your clients, now motivated sellers, lose their job and call the lender looking for assistance. The lender says your clients do not qualify for a loan modification but could short sale their home considering their hardship.
Following the advice, they come back to you, the top agent in town who knows their way around the short sale process really well. After a bunch of work, confirming the situation with the lender, and starting your marketing machine — you find a buyer who is well qualified and who offers full value for the property, subject to the lenders’ approval of the short sale, of course.
Being the best and most diligent real estate agent in the world you work feverishly to meet all of the terms of the lender, do their regular complex job of keeping the sale working by coordinating inspections, ensuring lender approval on the buyer, pest inspections, escrow coordination and the list goes on from your professionally prepared checklist that you have got from your real estate mentor – me!
You supply the needed information requested by the lender, including the completion of their paperwork (multiple times, as they seem to lose everything). You secure a sale approval from the lender. The buyer, of course, is happily waiting for all of this because you took a huge deposit along with making the buyer pay for an inspection and appraisal up front, prior to approval.
All is looking great and you can imagine all the places your commission can be sent. You get the call from the escrow agent to arrange your signing. The buyer goes in and signs. As the sellers go in to sign, the lender, who agreed to the short sale, calls at the closing and does one of two things:
1. States they have done another BPO and want more money from the buyer or seller, or they will not close. OR
2. Pulls their approval and refuses to close on the short sale.
The buyer and the buyer’s agent are furious! Believing that all was okay and escrow was about to close, the buyer has given notice at their current home. They have the moving truck packed and they want to sue. They aren’t sure who to sue, but I’m sure their attorney will help with that part! They probably can sue, too.
Your sellers are furious as they have done everything the lender demanded. They agreed and now they are reneging. They also want to sue.
You have saved the day, sold the property, got the bank back their lions’ share of their investment, and have done it all in record time. You want to sue.
Can you all go after the mean bank and sue them? Generally, while acknowledging that every situation is different, the answer is no.
Related to the lender, as much as you do not want to hear that answer, under the pre-existing duty rule, an agreement to modify a contract without legal consideration is not valid. Putting this in more clear terms, the lender is owed $350,000 under a contract with a pre-existing duty to pay that lender that $350,000. You, the seller, and/or the buyer are trying to hold the lender accountable for an agreement to take less than is owed to close the sale. However, a basic premise of a contract is money consideration or some sort of consideration. That subsequent agreement, to take less in an existing contract, is not supported by any consideration. The seller is actually going to pay less than the pre-existing duty requires, therefore no consideration, and the lender is going to get less than their existing contract states, no consideration there either. The agreement they have made that they would take less is not enforceable for lack of consideration if they change their mind.
This pre-existing duty rule is usually referred to as the Foakes v. Beer rule. This very fundamental case was decided in 1884 and is the leading case from the House of Lords on the legal concept of consideration.
The buyer cannot sue the lender as they do not have a contract with the lender. The seller has a contract with the buyer, which is subject to the lender approving the short sale. The buyer may want to argue that the lender agreed and they detrimentally relied on that approval and have been damaged. While that argument may have some weight, the lender is going to argue that the buyer should know of the pre-existing duty rule and know that even if they agreed to the short sale, it was not supported by consideration and they can change their mind. You, the listing agent, have to close the transaction to earn a commission.
In conclusion, the general rule is in the lenders’ favor, and it will be a very complicated and expensive litigation with great risk to pursue it on alternative theories.
This is where you have to be careful because the real estate agent does not want to represent to the buyer who was approved by the lender who approved the short sale and now the buyers have an enforceable contract. Agents who do that may find the buyer, in relying on the representation, may be claiming they are damaged by giving notice and moving, and may subsequently have an action against the agents involved.
I know this does not seem fair! However, fair or not, the most important piece of information here is to understand these risks and act accordingly. Sellers should be careful what they represent, agents should be careful what they represent, and buyers should not put themselves in harm’s way until the transaction actually closes as the lender can change their mind to the buyers harm right up to the actual close.
In doing my research on this, I used sources from Kimberlee A. Rode and David A. Pereira. It seems that the short sale pain never ends so the following systems must be put in place:
1. List short sale property only when the seller actually cares if it sells.
2. Spend less time at a short sale listing presentation by ordering a title package to determine additional liens.
3. Only take one lien or one lender short sales.
4. Refer the rest
5. Spend less time at a short sale listing presentation by sending educational materials before you get there.
6. Ask for more commission, a longer time frame, and any fees that you incur from the seller.
7. Spend no money on marketing. 90% of all properties sell based on their price.
8. Accept the offer that is going to close, not the highest price.
9. Counter all offers on deposit, lender, affiliates, and timing; if the buyer is really interested, they will invest in an inspection and an appraisal up front.
10. The bank can not interfere in a contract between you and the seller. Commission reduction requests are tortuous interference of a contract. If they want more money ask for it in sales price, not commission.
11. Try to get both ends of the deal.
Short sales are going to be a fixture in our industry for awhile. Don’t take the painful ones.