We're all taking a hit to our wallets--gas prices, insurance rates, property taxes. These are just a few of the factors that are contributing to the record foreclosure rates our nation is facing. To put it into solid numbers, RealtyTrac says "1.2 million foreclosure filings were reported nationwide during the year (2006), up 42 percent from 2005.".

The current surge in foreclosure rates is a stark contrast to the historically low levels of foreclosures we've seen over the past several years. Property values were high, so homeowners on the brink of foreclosure could easily sell their home and get out from under their debt. But now troubled homeowners are facing stagnant appreciation levels and spiking adjustable rate mortgages.

The short sales strategy

As a real estate investor, all these foreclosures mean that the iron is hot for the striking. But you don't want to just charge in like a bull in a China shop. Instead, focus your time and energy on making short sales.

A short sale occurs when the lender is willing to take less money than what is actually owed on the mortgage. Basically, the lender can see that the prospects of a full recovery are fairly dim, so they're willing to cut their losses. For example, suppose Homeowner Joe owes the lender $240,000 on a home valued at $260,000. Homeowner Joe gets a short sale offer of $225,000 on the house. If the lender will accept that amount (and accept the $15,000 loss) as payment in full for the unpaid balance of the loan, then you've successfully completed a short sale.

Who benefits from a short sale?

The short answer: everybody! The homeowner has avoided foreclosure, as well as a huge stain on their credit history. The lender has avoided the expenses of a foreclosure and the hassle of trying to sell the home themselves. You've benefited because you just purchased a home with an automatic $35,000 in equity.

The best candidates for short sales

You can do a short sale with a bank-owned home. However, the ideal candidate is a homeowner who's on notice that they're in default but has not actually been foreclosed on. The reason for this goes back to the benefits of short sales in general. Both the lender and homeowner are eager to avoid foreclosure all together. If the foreclosure has already occurred, the bank is less motivated to accept a price that's insufficient to cover the outstanding debt.

As for the property itself, look for homes that are over-leveraged or have multiple mortgages. An over-leveraged property is one that has mortgages totaling more than the market value of the property. The lenders who financed the second or third mortgages are totally out of luck if a foreclosure happens. They'll basically get nothing. Naturally, these lenders in particular are happy to take what they can get.

A third type of home to look for is one that's in poor cosmetic shape. You might be willing to invest sweat equity in a "fixer upper", but a bank isn't. The more work the house needs, the bigger the hassle for the lender. And if there's one thing that every real estate investors knows, it's that you can always cash in on a lender's aversion to a hassle.

How to do a short sale

Doing a short sale involves four major steps. The first step is working with the homeowner. Once you've made your case, you need to reach an agreement with the homeowner and solidify it in a contract. As with any home buying situation, contracts can be gotten out of, but it's difficult and a penalty is usually involved. With a contract, you're protecting the time and energy you've already invested in the venture. The homeowner is less likely to back out once a contract has been signed.

Next, contact the lender and ask for their information packet about short sales. Every lender requires different information, and this packet will ensure that you give the lender everything they need. At a minimum, you'll probably be asked for the following pieces of information:

* A letter from the homeowner explaining why he is substantially behind on his mortgage payments

* Financial information about the homeowner, including bank statements and pay stubs

* Copies of the original sales agreements and contracts

The third step is getting a broker's price opinion, referred to as a BPO for short. A BPO is an evaluation of a property's value performed by a real estate agent who's selected by the lender. Getting the lowest BPO possible is the cornerstone of a profitable short sale. As the real estate investor, you have to take proactive steps to influence the agent to set a low BPO. For instance, you should be present at the evaluation and prepared to point out necessary repairs and cost estimates for having the repairs performed.

Now it's in the hands of the lender. The last step is waiting for the lender to accept or reject your offer. If the lender accepts your offer, you're ready to close on the deal. If the offer is rejected, all is not lost. You can continue the negotiations, and you may even be able to get a second BPO.

As a real estate investor, the short sale is one of the most effective and efficient strategies at your disposal. The process is simple and the prime candidates are easy to spot. With foreclosure rates soaring, and showing no signs of leveling off, now is the time to put the short sale to work. Check out the resource box for how you can soar your profits with foreclosures.

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