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Banks Still PROFITTING From Short Sale!


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2010 May 20, 4:28am   2,281 views  12 comments

by vain   ➕follow (0)   💰tip   ignore  

I was told by my loan officer during a casual conversation while waiting on my short-sale approval. Here are the details.

Original loan of 617k in 2004 @ ~5% 5/1 ARM
Buyer defaults in late 2009.
Market value of the home is probably $480k
I offered $430k.
Existing loan balance is still probably around $617k because of the suicide loan.

I was worried that the bank may not want to take a hit because of this short sale. He assured me that the bank is not taking a loss. The question is not how much they will lose. It is how greedy do they want to be.

He summarized his basis for that statement:
The borrower has made payments for 5 years already at about $4000/month. That's $48k/year x 5 years = $240k went to the bank.

Now if they get $430k - 6% commission, it would net them $404200.
Now add that to the $240k that they've collected from the previous 5 years.

Bottom line for the performance of this loan is $644200; which is $27,200 more than the original loan amount. The interest gets excluded from the calculation because he assumed the bank was able to secure those funds for a very minimal cost anyways. Even if it was not minimal, it's not as much loss one had expected.

Has anyone ever heard of this?

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1   gameisrigged   2010 May 20, 5:42am  

So if the bank doesn't sell you the house at below market value, they're "greedy"? If I were a bank, I would sell the house for the largest amount of money I could get for it. Why would you expect them to do otherwise? In addition, excluding interest in your calculation makes absolutely no sense. They loaned that person money for 5 years. That's money that could have been invested elsewhere. Most of the $240K the borrower paid to the bank was interest. The whole idea of interest is that when you loan money, you don't just give it away for free, because if you had KEPT that money rather than loaning it out, you could have invested it and made money with it. I hope you get the deal you want, but I wouldn't be outraged or anything if you don't.

2   vain   2010 May 20, 6:53am  

thomhall says

The biggest hits to the banks are the dead beat buyers who stopped paying 30 months ago, or who walked away from the homes, leaving them to be maintained by the bank.

Or the people who defaulted just several months after they took the loan, and values plummeted.

gameisrigged says

So if the bank doesn’t sell you the house at below market value, they’re “greedy”? If I were a bank, I would sell the house for the largest amount of money I could get for it. Why would you expect them to do otherwise? In addition, excluding interest in your calculation makes absolutely no sense. They loaned that person money for 5 years. That’s money that could have been invested elsewhere. Most of the $240K the borrower paid to the bank was interest. The whole idea of interest is that when you loan money, you don’t just give it away for free, because if you had KEPT that money rather than loaning it out, you could have invested it and made money with it. I hope you get the deal you want, but I wouldn’t be outraged or anything if you don’t.

My bottom line was the losses aren't as huge as people perceived it to be. In my situation, which would have appeared to be a $200k loss for the bank wasn't actually that much of a loss compared to how much assets they've got.. or had; just a small loss and an opportunity loss. This was coming from a guy that is involved with loss mitigators. The original payments were calculated based off the assumption that you will pay them back in 30 years. That's why they play catch up with interest right off the bat.

Imagine if loans were designed so that 100% of your payments in the beginning were to cover the principle. Interest payments come after you pay off the principle. It'd be interesting :)

Another way to see it is to look at a retail store. It purchases inventory @ $100 per unit of bicycles. It planned to retail it at $200. Now if that bike were to get stolen from the store, they'd write their loss as $100, which was their cost of the inventory; not $200, the anticipated sales price.

3   alpine   2010 May 20, 7:24am  

Interesting, and clearly the bank isn't taking as big a loss as you might think based on 617k-430k.

But I'm not sure I buy the premise that the bank's cost of borrowing in 2004 was near 0%. Does anyone have information that actually substantiates this?

I realize this isn't entirely a free market, but if the bank is really making 5% on effectively free money, I'd expect someone else to come along and offer 4% or 3% and take the reduced profit margin.

4   vain   2010 May 20, 7:29am  

alpine says

I realize this isn’t entirely a free market, but if the bank is really making 5% on effectively free money, I’d expect someone else to come along and offer 4% or 3% and take the reduced profit margin.

I wasn't insisting that banks borrow at 0%. It may or may not be true. But there are probably guidelines as to how low they can go. Take example for LCD televisions. The manufacturer limits them how low they can go. It's called MAP (Minimum advertised price).

The banks losses on 1 property is not as heavy as everyone thinks it is. You can see how in many cases, there might not even be a loss at all if you manipulate the numbers and time frame a bit. They're just simply trying to get more yield from their original investment.

Loan modifications and principal reductions work very well for them. If someone can't pay $x for an item, they just drop the price a tad and see if they can afford it.

5   HousingWatcher   2010 May 20, 7:54am  

"The borrower has made payments for 5 years already at about $4000/month."

What makes you so sure all of that moeny wnet to the bank? What about property taxes and insurance?

And the bank is not greedy simply for not selling you the house for a low price. This is capitalism, FYI.

6   gameisrigged   2010 May 20, 8:04am  

Vain says

My bottom line was the losses aren’t as huge as people perceived it to be. In my situation, which would have appeared to be a $200k loss for the bank wasn’t actually that much of a loss compared to how much assets they’ve got.. or had; just a small loss and an opportunity loss. This was coming from a guy that is involved with loss mitigators. The original payments were calculated based off the assumption that you will pay them back in 30 years. That’s why they play catch up with interest right off the bat.
Imagine if loans were designed so that 100% of your payments in the beginning were to cover the principle. Interest payments come after you pay off the principle. It’d be interesting
Another way to see it is to look at a retail store. It purchases inventory @ $100 per unit of bicycles. It planned to retail it at $200. Now if that bike were to get stolen from the store, they’d write their loss as $100, which was their cost of the inventory; not $200, the anticipated sales price.

But my point was that the bank isn't doing a short sale for YOUR benefit. It's a business; I would expect them to take whatever course of action results in them making the most money. They're not selling you the house as a personal favor, so why would you expect them not to make a profit if they can? How is that being "greedy"?

I don't see how it's at all analagous to a store owner writing off an insurance loss for full retail price as opposed to cost. Not the same thing at all. This is not an insurance claim; it's the sale of a house. They're entitled to ask as much as they want for it. Whether they decide to sell it to you at your offer price most likely will depend entirely on whether they think they can get more from another buyer, and if it's worth trying.

I guess what I'm not understanding is why you seem outraged that a bank might profit from a short sale.

7   vain   2010 May 20, 8:27am  

gameisrigged says

I guess what I’m not understanding is why you seem outraged that a bank might profit from a short sale.

I guess greedy was not a correct word to describe it. What I was pointing out (and I'm sorry if it was obvious to you all already), that a short-sale was always perceived as a bank losing money... Many cases they will not lose money; just not earn as much as they had hoped.

HousingWatcher says

What makes you so sure all of that moeny wnet to the bank? What about property taxes and insurance?

The payment that was calculated was taking in consideration their mortgage payments and interest only. The number would be greater if it was including their taxes and insurance.

8   gameisrigged   2010 May 20, 9:03am  

Nah, short sale just means that the home is sold for less than the balance due on the loan, and the bank agrees to accept the sale amount as payment in full on the loan. They are losing money in the sense that they are getting less money than they would have if the borrower paid back the loan in full, but that doesn't mean they're necessarily getting screwed. I don't blame you for being confused, though - the government is trying to attach all sorts of moral implications to everything these days.

9   thomas.wong1986   2010 May 20, 9:16am  

Original loan of 617k in 2004 @ ~5% 5/1 ARM
Buyer defaults in late 2009.
Market value of the home is probably $480k
I offered $430k.
Existing loan balance is still probably around $617k because of the suicide loan.

I was worried that the bank may not want to take a hit because of this short sale. He assured me that the bank is not taking a loss. The question is not how much they will lose. It is how greedy do they want to be.

He summarized his basis for that statement:
The borrower has made payments for 5 years already at about $4000/month. That’s $48k/year x 5 years = $240k went to the bank.

Now if they get $430k - 6% commission, it would net them $404200.
Now add that to the $240k that they’ve collected from the previous 5 years

Answer: The lendor or holder of the note, lets call it the bank, looks at the their outstanding aging, Accounts Receivables on Loans, and any loans past due date, in many cases after 90 days from going delinquient gets written off to reserves for bad debt. Before that happens, every company, like the banks will estimate how much of their aging will go bad every quarter and they provision this into their profit and loss statement. So lets say, history for Bank of America sees 5% of their loans go bad, they will take a hit and reserve 5% of their aging that quarter. If their estimates are higher next quarter, they they hit for additional 6% and do a true up. Basic accounting of matching concept. And no they dont play around with that number because the third party auditors really go over this in details.

Doesnt matter if we are talking about Banks, Tech Companies, Hotels chains or what ever industries. Losses are recognized well ahead of actual write down or write offs.

Short of it.. they already took the loss. I dont expect any loan officer to have this info, since its kept under wraps until the earnings call at end of the quarter. Most likely the 240K is only the interest payments, and not applied to principle of the loan as you list. The principle was written off already as uncollectable. The $600K is long gone against earnings. That is why they received TARP and then raised additional capital cash from equity offerings.

So its worth zero!

10   bubblesitter   2010 May 20, 9:31am  

There are two ways to look at it. If the bank had borrowed money from other bank/govt. than they are loosing on short sale. If the bank is self sufficient with no borrowing than they did not make enough profit.

11   vain   2010 May 21, 10:41am  

I see a short sale no different than a retail store owner not happy about a customer returning an item.

12   MarkInSF   2010 May 21, 11:36am  

Bottom line for the performance of this loan is $644200; which is $27,200 more than the original loan amount.

Assuming those numbers, this would probably not be a profitable overall transaction. If you run the numbers, that's equivalent to about a 1% compounded rate of return on the $617K loan.

But you have to look at the other side of it's balance sheet. What was it's weighted interest payed out on it's liabilities (deposts, CDs, bondholders)? And how much did it pay out as dividends to stockholders? What about other overhead like employee compensation?

It's extremely unlikely their average rate of payment on their liabilities was lower than 1% over that period. For example in the 2005 annual report for Wells Fargo, their average interest paid was 1.95% on their liabilities. Though newly issued liabilities were probably lower than that, so hard to know for sure. So it's already likely they took a loss just from the interest rate spread.

Add in the other expenses and the loan was very likely a loser for the bank.

This example does demonstrate however how short sales are not quite as catastrophic to banks as one might imagine.

dadab says

There are two ways to look at it. If the bank had borrowed money from other bank/govt. than they are loosing on short sale. If the bank is self sufficient with no borrowing than they did not make enough profit.

There is no such thing as a bank that does not borrow. If you're just a doing mortgage lending with your own capital, you're an investor, not a bank.

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