This is my speciality. Over 60,000 people each month in LA county face this exact delima. But here are the facts in your situation.
Unlike the past 10 years, home prices will not appreciate at 10-15% anymore. 3% is the historic norm, with a 300 year history. The Case-Shiller Index will show this. This 3% appreciation rate is optimistic, as there are over 1 million homes in "shadow inventory" meaning they are on the books of lenders in California, but have not been marketed. .
If Zillow thinks your property is worth $320,000, it is probably worth $280,000. But to play devils advocate, lets say your property is really worth $320,000. At a 3% appreciation rate, it would take exactly 13 years to have your home worth $469,930. So for 13 years you are effectively renting. A $400,000 loan at 6.25% is $2462 without insurance or taxes, and the $65,000 loan at 8% is $543. So you are paying $3,000 each month for 13 years that will never be recouped. Thats $468,000 in payments you will NEVER EVER see again. Notice that this is what you owe on the property today. This means in 13 years you would have paid off your home but since you have a 30 year mortgage, you wont even be close to finished in 13 years keeping the home.
So lets say you sold your home and rented for 2 years and then purchased again in 2014. Your exact home in 2014 would cost $330-$340k to purchase then. With $34,000 down, this home will be yours. Now, you will gain 11 years of appreciation and after 13 years from today, you will be able to sell your home for $469,000 just like in the previous example, but this time instead of leaving with nothing, you actually walk away with over $100,000. There are also other reasons to sell now besides opportunity cost. THe IRS will not come after you for the deficiency if you do a short sale before the end of 2012, and the bank wont come after you either.
As for you not being able to show hardship, if you have an agent such as our firm, which can prove financial hardship to a lender, your short sale will get approved, even though you could possible continue to pay. We shouw the lender financially that it is in their best interest to let go of this loan now, while incentives for them are best.
1-800-640-8798 if you have any other questions