While the recent halt in foreclosures gave defaulting homeowners some breathing room and a glimmer of hope their lender might consider a modification or short sale, lenders are still reluctant to concede a short sale in favor of foreclosure.

Historically, lenders have never preferred short sales for fear homeowners will take advantage of them to cut their losses. A recent report found that 2% of annual short sales involve fraud, costing banks around $300 million.

A 2009 change in accounting policy by the Financial Accounting Standards Board (FASB) allows lenders to delay recording losses on foreclosures until the home is sold, while losses from a short sale must be marked immediately.

Bank of America (BofA) has only processed 61,000 short sales nationwide in 2010, compared to the millions of homes in foreclosure it services.

first tuesday take: Instead of the “cat and mouse” game for short sales or foreclosures, banks need to focus on cramdowns if Californians are to remain homeowners as desired by agents, builders and the government. Reducing principal to keep homeowners in their homes is a far better solution than initiating the on-again, off-again short sale, or adding another foreclosure or real estate owned (REO) property to the massive pile of destroyed homeownerships. [For more information regarding short sales, see the August 2010 first tuesday article, Short sales could be shorter.]

Blinded by total fear of declaring losses, lenders are stuffing more skeletons in their already bursting closets of rising delinquencies (through 2013), shadow inventory (recorded notices of default (NODs)) and delayed reporting of their insolvency. Instead of focusing on clearing out their patently unmanageable profusion of foreclosures, banks are adding to it. They are unwilling to take a direct and immediate principal reduction hit for the benefit of consumers, the nation’s housing policy and the greater real estate market — all of which are partially to blame.

Foreclosures are necessary for fast, quick recovery — they are a fitting solution for a default if they are actually completed, lest we wish to go the way of Japan in this financial crisis. Until the government forces them to write down their loan portfolios to current market value and reduce mortgage principal for underwater homeowners, prepare for your short sale requests to be absolutely denied on arrival. It keeps lenders solvent; on paper, with paper. [For more information regarding proposed changes to foreclosure, see the October 2010 first tuesday article, The foreclosure process needs to change, not halt.]

Re: Short sales resisted as foreclosures are revived” from the New York Times