You bought your house recently for $200,000, and the way that you were able to pay$200,000 is you were able to put 25% down. So you made a $50,000 down payment. And the balance, the other 75%, you borrowed from the bank. So$150,000 loan from the bank, and you pay it off with your monthly payments that include paying down the loan and the interest. Now something happened in your life. Maybe, unfortunately, you lost your job or your spouse lost their job. Or maybe you just overestimated your ability to pay off your mortgage payments, and so you're having difficulty making them. Frankly, you can't make your mortgage payments anymore. So in this situation, you have a couple of options for you. One option is you can try to sell the house, so some type of a sale. Or the other option is you could essentially give the house back to the bank, and that we'll call foreclosure. In another video we'll go more in depth of what happens in foreclosure. But the bank's going to get the property, try to auction it off. If it can't auction it off, then the bank will own the property. And then maybe they'll try to sell it at a later date. And this is not a good option for you. This will kill your credit, which will make it very hard for you to get a loan-- really of any type of loan, but especially a mortgage loan-- anytime in the near future, really over the next several or many years. So you say, OK, I want to do the sale option. Now unfortunately for you, the housing market has deflated dramatically. And so when you talk to a realtor, the realtor figures out, well look, after all is said and done-- I mean, you try to sell it for more than your loan amount, but you're not able to. You're getting really low offers. The offers are like 120,000, 130,000. And so when you really sit with the realtor and you think about what the market is willing to pay for your house, you realize that the most you're going to get for your house after you pay the real estate commissions and all the other things that are involved when you sell a house, you could get maybe 120,000 for the house. And let's say you still owe pretty close to 150,000 on the loan for the bank. Your loan might have even been an interest-only loan, but even after a year or two you're probably not going to pay down the balance of your loan too much. It might be like 140,000 or 145,000. And you're only able to get 120,000 for the house. So what do you do? You don't want to go to a situation where you sell the house for 120,000, you still owe 150,000 on the loan. And so you're still going to have to pay $30,000 for a house that you don't even have anymore. So what do you do? Well, one option-- and this is not always going to be an option-- is to go to your bank and say, can I do a short sale. And a short sale is essentially selling the house for less than you owe on the loan. So let me write this down. Selling for less than what you owe. And the bank doesn't have to, but the bank might-- well, one, the bank would have to agree to the short sale, because their loan is secured by this property that you're selling. And in most cases, the reason why you would want to do the short sale is that the bank may forgive the balance of the loan. So you try to convince a bank to forgive. So for example, you could go to the bank. And you say, look, I lost my job. We're having trouble paying for this house now. After paying real estate commissions and all the rest, I could only get 120,000 for this house. I know that I owe you 150,000. Can you forgive the extra 30,000 that I owe? And the bank might choose to do that. Now, even in this situation, you have to be very, very, very, very, very careful. And this has to be negotiated with the bank and all the rest is because the bank could still report you to credit agencies, which is really not going to be a whole lot better than getting a foreclosure. So in part of this negotiation process-- and the bank is under no obligation to either forgive your loan and let you go forth with that short sale. And they're under no obligation to hide it-- I wouldn't say hide it, but to not talk to the credit agencies. But part of that negotiation you should try to convince them, or you would ideally try to convince them, not to report it to the credit agencies. The other issue with a short sale-- and this is something that few people think about-- is when you have, let's say, in this case$30,000 forgiven, the IRS might consider that to be income. So you might have to pay income tax on this right over here. And people always ask me, wait. If someone forgives a loan, why is that considered income? And the best way to think about it is if the IRS did not consider that income, it would be a huge loophole in how someone could compensate someone. If I wanted to pay someone, I could give them-- so this is me. This is the person that I'm trying to pay. I could give them a loan. Let's say I could give them $100,000 loan, and then I could forgive the loan. And so it would essentially be I gave them$100,000 maybe to do some work for me. It would be a transfer of money by giving a loan and then keep forgiving over and over and over. It would be completely identical to giving someone a gift, which is taxed, or giving someone some type of income. So a short sale, you're not always going to be able to do it in this scenario. But if your house is selling less than the value of the loan, you might be able to negotiate with the bank to allow you to sell the house for less than the value of the loan. The bank's other option is that they're going to have to go into some type of a foreclosure proceeding and take ownership of the house, which is expensive for the bank as well. But they keys here are even if the bank is willing to let you sell the house for less than the loan amount, the owner really needs to make sure that the bank is willing to forgive the balance and ideally not report to credit agencies.