A short sale occurs when the sales price doesn't pay off the underlying debt.  What is "underlying debt?" Most common examples:

1. First deed of trust. This is the lender who has the primary mortgage on the house

2. Second deed of trust. The most common form is a HELOC, or Home Equity Line of Credit.

Say a couple bought a house for $300,000.  They put 5%, or $15,000 down and got a loan from Bank of America for the rest, or for $285,000.  Time passed and the house became worth $315,000. Now, they have their original downpayment ($15,000) plus the oncrease in the house value ($15,000) for a total of $30,000. Countrywide Mortgage offers a Home Equity Line of Credit for $25,000 and gets back a second trust deed.

There is now total debt on the house of $315,000. But down the road, the house is only worth $275,000 and the couple has to sell. It would be short sale because there's only that much to pay off the firstand second trust deeds.

People often confuse foreclosures and short sales. They are not the same thing. A foreclosure occurs when a borrower defaults--quits paying--and the lenders buys back the house at public auction.  A short sale can occur (if the lender permits it) whether there's foreclosure or not.