STUDY August 2010

The Cost of Short Sales

CoreLogic Research Study
An Analysis of 2010 Short Sale Trends, Risks, and Opportunities
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Table of Contents
Objective of the Study ........................................................................................................................................................ 1

Executive Highlights ........................................................................................................................................................... 2

Trends ............................................................................................................................................................................................. 3

Defining and Measuring the Risk ...............................................................................................................................4

Mitigating the Risk ................................................................................................................................................................ 7

About CoreLogic .................................................................................................................................................................... 8

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Objective of the Study

The objective of this study is to understand the actual costs of residential mortgage short sales (or short payoffs) to
mortgage industry participants and the industry itself. A short sale is a real estate transaction in which the lender
permits the borrower, who is unable to pay the mortgage for whatever reason, to sell the property for less than the total
amount due on the mortgage — usually at a loss to the lender.

In the course of this study, we examined over 250,000 single family residence (SFR) short sale transactions during the
past two years. Analysis of these data not only helped us determine current trends in the short sale arena but clarified the
many risks and opportunities that define the actual cost of these transactions.

Our main information resource was the CoreLogic group of industry-leading databases, representing 98% of real estate
transactions and 85% of existing mortgages. These data included loan-level detail on FHA, conventional, jumbo, prime,
subprime, and Alt-A mortgages. The extensive current and historic loan detail enabled us to analyze specific aspects of
transactions, such as short sales, with tremendous precision.

We’re pleased to share the results of this study with the lending community. Our hope is that we will contribute some
new facts to an understanding of the recent crisis, help minimize current mortgage losses, and facilitate avoidance of a
repetition in the future.

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Executive Highlights
Following are key findings from the study:
► The number of short sales has more than tripled since 2008. Multiple variables indicate short sales will continue to
be a significant factor for the industry.
► During 2009 and 2010, over half of all short sales (55.8%) occurred in four states: California, Florida, Texas, and Arizona.
► Approximately 4% of short sales have a subsequent resale within 18 months.
► Investor-driven short sales are not inherently bad, since investors provide the industry with necessary liquidity.
► Short sale transactions are “risky” for lenders when either (1) the second sale amount is vastly higher than the
initial short sale, and/or (2) the second sale transaction happens too soon after the first.
► While the exact definition of what constitutes short sale fraud continues to evolve, it clearly exists. Our analysis
shows a consistent pattern of lenders incurring more loss than necessary. About one in 53 short sale transactions in
our study (1.9%) was part of an egregious flip — and therefore deemed risky.
► We estimate that lenders are currently incurring unnecessary losses in short sale transactions at the rate of
$310 million per year.
► Information-sharing groups and consortia are key to lenders mitigating short sale risk and reducing associated
costs. Only by leveraging multiple-lender data and experience can individual lenders see negative short sale risk
patterns in time to avoid the financial consequences

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Trends
Short sales have been, and will continue to be, an
inevitable and necessary part of the mortgage industry’s
post-crisis stabilization process. Historically, borrowers
unable to sustain their mortgage payments were simply
foreclosed upon by lenders. But the foreclosure process
itself can be expensive. During months of increasing
delinquency, the property may become distressed or wind
up abandoned entirely — lowering its value substantially.
The legal costs associated with suing the homeowner
(which in many states is what foreclosure amounts to) add
more expense — much more if contested.
Lenders, therefore, often consider short sales the
lesser of two evils compared to foreclosure — a way
they can minimize their overall losses. Losses on prime
loans that go into foreclosure, for example, are 10%
to 12% higher on average than those for short-sold
loans. Generally speaking, all parties fare better when
foreclosures are prevented.
Many hoped federally-initiated loan modification programs
would ease the pressure on these underwater homeowners.
A recent study by the Special Inspector General for the
Troubled Asset Relief Program, however, indicated that many
borrowers who entered such programs ultimately fell out,
no longer meeting the loan modification criteria. These
borrowers remain in a negative equity situation.
Other government programs, like the Home Affordable
Foreclosure Alternatives Program, are actually
intended to drive short sales. To curb foreclosures, that
program offers cash incentives to key stakeholders
(including homeowners) to execute and close short sale
transactions. Its success, however, has been hampered
by what officials have acknowledged may be a lack of
necessary antifraud protections.
These developments all point to an increase in short
sales — and foreclosures.

It is no surprise then that the number of short sales in
the market has more than tripled since 2008. Freddie
Mac recently reported that its short sale volumes were up
over 700 percent compared to just two years ago1. Figure 1
shows the overall trend.
Figure 2 shows the distribution of shorts sales by state.
Over half of all short sales (55.8%) occur in just four states:
California, Florida, Texas, and Arizona.
DISTRIBUTION OF SHORT SALES BY STATE

SC All Other
SFR SHORT SALE VOLUME BY QUARTER UT MN States
NY KS
50,000 IN
PA
MO
40,000 OR
TN
30,000 NC
MD CA
20,000 WA
GA
10,000
VA
0 NJ
1

4
8Q

9Q
8Q

9Q
8Q

9Q
8Q

9Q

FL
0

0
0

IL
0

0
20

20
20

20

20

20
20

20

MI
Figure 1.
AZ TX
CO
The need for short sales will continue. At present, NV
some 25% of all U.S. mortgages are in negative
OH
equity — homeowners owing more than their properties
are worth. In some states, like Nevada, that number can go
as high as 70%. Figure 2.

1
http://www.thestreet.com/story/10793930/1/freddie-ceo-short-sales-
up-600.html

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Defining and Measuring the Risk

There has been much discussion in the industry about short sale fraud. Initially defined by CoreLogic, short sale
fraud is a transaction, “where parties involved in the process manipulate the short sale transaction and/or subsequent
transaction for a profit.” Freddie Mac recently refined the definition: “Any misrepresentation or deliberate omission of
fact that would induce the lender, investor or insurer to agree to the terms of a short payoff that it would not approve
had all facts been known.”

One example of this is strategic default when a homeowner misrepresents his or her financial situation — fabricating
untrue hardship in order to qualify for a short sale.

Another short sale fraud happens when parties manipulate the short sale and/or subsequent resale of the property. In
Figure 3 below, fraud occurs when the highest offer is deliberately withheld from the lender by the real estate agent.

ONE EXAMPLE OF SHORT SALE FRAUD

Lender hires Real Estate Agent to Sell Property (short if necessary).

1
Mortgage = $150,000

2 Agent receives $120,000 offer from Private Party

3 Agent contacts non-arms-length Investor

4 Investor submits offer of $100,000

5 Agent withholds highest offer, submits only Investor offer

6 Lender accepts Investor's $100,000 offer

Agent negotiates subsequent sale from Investor to Private Party for

7
$120,000

Figure 3.

Most would agree that the previous examples are fraud. Opinions differ greatly, however, when an investor buys property
in a short sale and subsequently resells it for a profit — in separate transactions. Such transactions are shown in Figures 4
and 5.

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Figure 4 may seem reasonable — the investor disclosed his intent to resell and may have made legitimate improvements
to the property. Figure 5 is more questionable, since there is a 30% profit on the resale without any time having passed
to improve the property. Also, based on Freddie Mac’s definition of fraud, you could conclude that the Figure 5 investor
deliberately omitted the presence of an end buyer as well as the fact that the buyer was willing to pay a much higher price
for the property.

LEGITIMATE? QUESTIONABLE?

Homeowner hires Real Homeowner hires Real

Estate Agent to facilitate Estate Agent to facilitate
1 1
a Short Sale. Mortgage = a Short Sale. Mortgage =
$150,000 $150,000
Agent receives $100,000 Agent receives $100,000
offer from Investor, which offer from Investor, which
2 2
discloses intent to resell discloses intent to resell
property property
Investor negotiates to resell
Agent submits offer of
3 3 property to Third Party
$100,000 to Lender
Buyer for $130,000

Lender accepts Investor's Agent submits Investor

4 4
$100,000 offer offer of $100,000 to Lender

Investor makes repairs/ Lender accepts Investor's

5 5
improvements to home $100,000 offer

Investor sells home Investor sells home

6 60 days after short sale for 6 1 day after short sale for
$120,000 $130,000

Figure 4. Figure 5.

“A rose by any other name…”

So the question remains: are short sales with a subsequent, profitable resale — especially investor-driven short
sales — fraudulent? Lenders must be careful not to judge all such transactions the exact same way. If lenders were to
exclude investors from short sale transactions or require them not to resell properties within a certain timeframe, they
would be turning down significant numbers of cash offers — liquidity that they need. But continuing to do business as
usual now means risking larger losses than necessary.

Rather than arguing over what is fraud and what isn’t, lenders should focus on their primary objective—eliminating
unnecessary loss. Since each short sale represents a loss by definition, how can lenders determine what constitutes
unnecessary loss? At what point should a lender conclude ACCEPTABLE SHORT SALE-TO-RESALE PROFIT MARGIN
that they are selling a property too short, potentially
incurring more loss than necessary? Or can you only do
that after the fact?
Short Sale-to-Resale
Percentage Gain

Time is key. For example, does a 30% short sale-to-

resale profit margin seem questionable? It might if the
able
two transactions happened on the same day. But if the ept
Acc
two transactions happened nine months apart, many
legitimate factors may have come into play (home
improvements, rising market, seasonality, etc.). Figure 6
illustrates a basic principle: the greater the time between
transactions, the greater the reasonable margin between 0
Time Between Short Sale and Resale
the two transaction amounts.
Figure 6.

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Study 2010 Short Sale Research Study J

CoreLogic took the trend line expressed above and overlaid it with actual transaction data. Figure 7 displays the results:
about 4% of all short sales had a subsequent resale within 18 months. Lenders were at risk of incurring unnecessary loss
in 47% of these transactions, or approximately 1.9% of all short sales (one in every 53).

SHORT SALE-TO-RESALE TRANSACTIONS

80%
Percentage Gain of Subsequent Sale

70%

60%

50%

40%

30%

20%

10%

0
30 60 90 120 150 180
Days Between Short Sale and Subsequent Sale

High Risk Medium Risk Low Risk

Figure 7.

Figure 8 below shows two real-life examples of short sale transactions where the lender may have incurred
unnecessary loss.
SHORT SALE TRANSACTION EXAMPLES
Property Address 123 Main St., Shelton, Washington Property Address 123 Roosevelt Ave., Meridian, Idaho

Transactions Transactions
8/24/2007 Stinky buys property $ 1,075,000 7/27/2007 Stinky modifies loan with lender $ 500,000
9/1/2009 Kimmich Investment Company buys property in Short Sale $ 416,000 9/21/2009 Kimmich buys property in Short Sale $ 281,250
9/1/2009 Kimmich Investment Company sells property to Rivera $ 575,000 10/23/2009 Kimmich sells property to Rivera $ 521,250

0 Days Profit $ 159,000 32 Days Profit $ 240,000

Profit % 38% Profit % 85%

Figure 8.

Impact on the Industry

The financial impact of such unnecessary losses on the lending community is significant. As shown in Figure 9 below, we
estimate that lenders are incurring nearly a third of a billion dollars in unnecessary loss annually.

ESTIMATED FINANCIAL IMPACT

► Estimated Annual Short Sale Volume 400,000

► % of Short Sales with Unnecessary Loss 1.87%
► Average Amount of Unnecessary Loss $41,500
► Estimated Industry Financial Impact $310,000,000

Figure 9.

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Mitigating the Risk

Our results suggest that lenders should take fundamental steps to alert themselves to the possibility of improper short
sale-to-resale transactions:
► Review documentation carefully, including resale disclosure details
► Confirm arm’s-length disclosures for all parties involved in the short sale
► Require borrower to confirm that he or she is not aware of any other parties or contracts associated with the
property and/or its short sale
► Apply due diligence to ensure the borrower’s income is accurate
► Apply due diligence to understand the current market value of property
► Validate that claims of significant renovation were actually completed
► Ensure that the seller is the current owner of record.

Leveraging a Consortium to Detect Short Sale Fraud

Although the fundamental measures listed above can detect inadvertent or small-scale risks, they rarely expose systematic
intentional fraud. To do so, lenders must be able to see any concurrent transactions pending on the short sale property.
Traditionally, lenders have had no access to such information (at least not in real time), since two or more separate sales
typically involve two or more separate lenders. This information can only be uncovered collectively — affected lenders agree
to share information — or via a formal lender consortium. The CoreLogic Mortgage Fraud Consortium is such a group.

The CoreLogic Mortgage Fraud Consortium is the informational foundation of the company’s new Short Sale Monitoring
Solution. This collective, consortium-based service allows lenders to benefit from both pre-closing and post-closing perspectives.

For short sales not yet closed, details of the transaction are matched against other pending loan applications in
the consortium database for the same property. When a matching record is found, an alert goes instantly to the
lender — recommending they delay the short sale decision pending further investigation.

For short sales already closed, the property is monitored continuously afterwards. Any subsequent loan closed on it
will generate alerts to both the original short sale lender and the resale lender, if different. Although too late to avoid
the original sale, it alerts the first lender to review sale terms for violations. It also alerts the new lender that if fraud is
discovered in the dual transactions, they could be a party to it.

An additional benefit of participating in consortium information-sharing and analysis is the ability it gives lenders to
evaluate real estate agencies and agents across multiple lender relationships. Real estate agents play a key role in most
short sale transactions. They inevitably wear two hats, sometimes representing a lender, sometimes a seller. This puts
them in a tempting position to manipulate transactions for profit (as shown earlier in Figure 3). The Mortgage Fraud
Consortium’s collective information and risk reporting can supply evidence of unethical behavior and provide lenders a
way to avoid involvement in potentially compromised future transactions.

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About CoreLogic
CoreLogic is a leading provider of consumer, financial and property information, analytics and services to business and
government. The company combines public, contributory and proprietary data to develop predictive decision analytics
and provide business services that bring dynamic insight and transparency to the markets it serves.

CoreLogic has built the largest and most comprehensive U.S. real estate, mortgage application, fraud, and loan
performance databases and is a recognized leading provider of mortgage and automotive credit reporting, property tax,
valuation, flood determination, and geospatial analytics and services.

More than one million users rely on CoreLogic to assess risk, support underwriting, investment and marketing decisions,
prevent fraud, and improve business performance in their daily operations. Formerly the information solutions group
of The First American Corporation, CoreLogic began trading under the ticker CLGX on the NYSE on June 2, 2010. The
company, headquartered in Santa Ana, Calif., has more than 10,000 employees globally with 2009 revenues of $2 billion.
For more information visit www.corelogic.com

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