Booming short sales poised to overtake foreclosures

Banks, eager to eliminate troubled mortgages through short sales rather than riskier foreclosures, are slashing prices. Average price of a short-sale home: $175,461, the lowest in at least seven years.

Preforeclosure sales – commonly called short sales – are quickly becoming lenders' preferred method to clear their backlog of delinquent home loans.

Banks are slashing the asking prices of homes with delinquent loans to their lowest levels in at least seven years, making it easier for homeowners to get out from under troubled mortgages and more appealing for homebuyers to snap up properties at a discount. The number of short sales could top foreclosure sales as early as this quarter.

"Lenders are more aggressive about short sales, and they're more realistic about the price they need to set to get them sold," says Daren Blomquist, vice president at RealtyTrac, an online marketplace for foreclosure properties based in Irvine, Calif.

Lenders sold off 109,521 residential properties through short sales in the first quarter, according to a RealtyTrac report released Thursday. That's up 25 percent from the same period a year ago. Lenders unloaded 123,788 properties through foreclosure sales in the first quarter, down 15 percent from a year ago.

One reason for the move is that conventional foreclosures have become more risky, Mr. Blomquist adds.

Foreclosing on a property is a long and costly process, which forces people out of their homes and has become more difficult for lenders. Regulators are scrutinizing foreclosures more closely because many lenders were found to be using shortcuts that flouted the rules of the process.

In a short sale, by contrast, the lender and delinquent homeowner agree to sell the home at a reduced price below the value of the mortgage. By forgiving part of the loan up front (a loss that's usually unavoidable even in foreclosure), lenders can dispose of troubled mortgages more quickly. Homeowners get out from under debt with less damage to their credit rating than if they had gone through a foreclosure.

Of course, short sales are also more complex than foreclosures, because the bank and homeowner have to find and negotiate with a willing buyer. That may explain why banks have lowered the average price they're willing to take on a short sale.

Nationally, the average price of a home in a short sale was $175,461 in the first quarter, down 4 percent from the fourth quarter and down 10 percent from the first quarter of 2011, according to RealtyTrac. That's a record low for the seven years that the company has been tracking the price. In 2006, at the peak of the real estate boom, the average short sale home sold for  $293,595 (click on the chart above left).

Expect the dealmaking to continue. With more than a million homes expected to enter the foreclosure process, it will take more than three years of short sales and foreclosure sales to work down the inventory of distressed mortgages to historic norms, Blomquist says.