If you know anything about the real estate market right now you have probably heard the term “short sale” and about a zillion other terms associated with these short sales. Terms like back-to-back closings, short sale flips, and transactional funding to name a few.   Most of these have risen around discussions of how to legally and ethically flip short sales, but in case you don’t have the scoop, it goes a little something like this.

A short sale is when a homeowner is upside down, meaning that they owe more than their home is worth, and in addition they are late on their mortgage.  If the seller wants to sell their home and the bank wants to get a bad loan off the books, then the bank must agree to accept a purchase price that is less than what it actually owned on the home.    If the bank feels they will net more money from the short sale than they would if they foreclosed, and then auctioned the property or sold it as a bank-owned property, they will likely accept the ‘less than what is owed” offer.

This is typically a win-win for the homeowner and the bank because the homeowner is preventing the foreclosure and the bank or lender has removed the bad debt from their books.  This type of transaction has probably become one of the most popular predominant scenarios in the real estate market today.

As its popularity has grown, it has become a way for investors to help homeowners while at the same time making a potential profit.  Although short sales can typically take 4-8 months on average, most investors like them because they are low risk in regards to liability.  If there is no equity in a home such as in a short sale, it is quite challenging to be accused of stealing the equity which investors are often accused of when purchasing a property at a discount.  The equity in a short sale is only created when the purchaser/investor negotiates an equity position.

So now the drum roll please, how can real estate investors help homeowners to potentially prevent foreclosure while still make an ethical investment.  Most do this by creating what is called a double closing or a back-to back closing.  This is where the investor makes an offer to purchase a home in pre-foreclosure and while they are negotiating that offer with the bank, they are searching for what is called an “end buyer”.  Translation, someone that is actually going to live in the home.

In these types of short sale flips, transparency is very important in order for it to be a legal and ethical transaction.  This is typically achieved when the investor discloses that he or she intends to immediately resell the property to a third party for a profit.  Verbiage representing this is typically put in the contract that is submitted to the lender that is agreeing to take less than what is owed on the home.  Most investors across the country that do this are often using an option contract or a standard contract with a land trust as the purchaser.  The lender reviews the contract when they are deciding whether or not to accept the offer so this verbiage gives them disclosure as to what is being done.

During this negotiation process which again, can take 4-8 months on average, the investor is looking for a buyer of the home at a higher price than what they are willing o pay.   This can be a tricky process, but it very feasible given the bank will may be willing to sell the home to them at a discount.  An example might be where the shorting lender agrees to sell a property to an investor at $200,000 because it makes more sense for them financially to do that than to foreclose.  The investor then resells the property to the buyer they have found for $230,000 and after commissions and closings walks away with a potential profit of $15,000 or so.

Right about now you may be thinking that all sounds fine and dandy but who the heck has $200,000 to buy property in order to make this happen?  Well, most investors don’t have the money and credit is so tight most can’t get a loan for it, so what do they do?

Ahhhhhhh, here is the rub.  There is no money needed in a back-to-back closing like this because there are a few niche companies out that that will provide the transactional funding, or flip funds for the one business day that the investor needs them.