This is called a short sale: selling for less than your mortgage balance. Your lender must approve it in advance since they are accepting a loss, and you may still owe the difference, called a deficiency, unless the lender agrees in writing to forgive it as part of the approval.
Why lender approval comes first
You cannot simply list below your payoff and close. Because the lender is owed more than the sale will generate, they have to approve the sale price, the buyer, and the terms before you can transfer title. This process, short sale approval, typically requires a hardship letter explaining why you cannot pay the difference, financial documentation, and comparable sales supporting the offer price.
The deficiency balance
After a short sale closes, the gap between what you owed and what the lender actually received is the deficiency. Say you owe $310,000 and the best offer is $280,000, after closing costs, your deficiency could land in the $35,000 to $40,000 range unless the lender agrees to forgive it as part of the approval. Some lenders waive it entirely as a condition of the sale. Others leave the door open to pursue it later, or forgive it but report the forgiven amount to the IRS as taxable income on a 1099-C. Get the deficiency terms in writing before you close, never assume.
Credit impact
A short sale does hurt your credit, though commonly cited estimates put the damage somewhat lower than a foreclosure's. Expect a meaningful score drop and a mark that can affect your ability to qualify for a new mortgage for a period of time, though many buyers requalify sooner after a short sale than after a foreclosure.
How this differs from just accepting a lower offer with equity
If you have equity and simply negotiate down from your asking price, none of this applies, you are still covering your full payoff at closing out of your proceeds. A short sale only comes into play when the accepted price itself is not enough to pay off what you owe.
What to do first
Call your loan servicer's loss mitigation department before you list, ask specifically about their short sale process and documentation requirements, and work with an agent experienced in short sale transactions, since the negotiation with the lender is often more involved than the negotiation with the buyer.
Tax treatment of forgiven debt
If your lender forgives part of your deficiency, that forgiven amount can be treated as taxable income under normal IRS rules, reported to you on a 1099-C. Certain relief provisions have historically excluded qualifying forgiven mortgage debt on a primary residence from that tax hit, but the rules and their expiration dates have shifted over the years, so confirm current treatment with a tax professional before assuming forgiveness is entirely tax free.
Alternatives to consider before a short sale
Before committing to a short sale, ask your servicer about a loan modification, which restructures your payments without requiring a sale, or a repayment plan if your hardship is temporary. Some lenders also offer a deed in lieu of foreclosure, where you sign the property over directly instead of listing it, which can be faster than a short sale but typically still affects credit similarly and does not guarantee deficiency forgiveness either. Comparing all three options with your servicer, rather than assuming a short sale is your only path, can save months of process.
Bottom line
Selling for less than your mortgage balance is possible, but it requires your lender's advance approval and a clear understanding of whether you will owe a deficiency afterward. Get every term in writing, loop in a tax professional on any forgiven debt, and treat the lender conversation as its own negotiation separate from the buyer's offer.