When you can’t make your mortgage payments, you are faced with a difficult decision. Do you try to get the lender to agree to a short sale or do you go through with a foreclosure? Both events have a negative impact on your credit, but which one hurts you more? We look at both scenarios below.
How It is Reported
The first thing you should understand is how lenders report a foreclosure or short sale on your credit. Foreclosures are reported just as they are – it states you lost your home in foreclosure. Anyone looking at your credit report in the future will see the full amount of the mortgage that you did not pay. Perhaps, the worst thing about it is that the entire amount, saying $200,000 for example, shows as one big late payment.
There is no one way that lenders report a short sale, though. You might see it as a ‘charge-off.’ You may also see it as a ‘ deed in lieu of foreclosure’ or ‘closed for less than the full amount.’ It’s up to the lender how it is reported. The difference, however, is there is not an outstanding balance. You don’t show that $200,000 past due balance. Instead, it shows in some way, that the lender settled for less than the full amount and considers the account paid-in-full.
The Foreclosure Status
Before you get too excited about the short sale and its potential lesser impact on your credit report, there’s one thing to know. Every borrower that is more than 90 days past due on a mortgage has a foreclosure status reporting on their credit report. Short sale negotiations usually do not begin until at least 6 months of missed payments. This means the lender likely reported your account in foreclosure long before you started the short sale process.
Selling your home for less than you owe is something you have to work out with the lender too. You can’t decide to do it on your own. The lender must agree on the amount and the terms of the sale. The entire process can take 6 months to a year to complete. After that time, you can negotiate with the lender to remove the foreclosure status from your credit report. Until that time, though, it remains on your credit, harming your score and your ability to secure any other credit.
Impact on Credit Score
Either way, the scenario hurts your credit. You might be able to pick up the pieces quicker after a short sale because it shows that you found a resolution for your issue. However, it still shows that you had financial difficulties. You are still a high-risk borrower. You did not make mortgage payments for at least 6 months, which makes you high risk no matter which way you slice it.
In the end, you should do what is right for you. If you end up in a foreclosure, you may have to wait 2 to 3 years before you can secure another mortgage. This gives you time to pick up the pieces and fix your credit. It also gives you time to save money. You’ll likely have to rent during this time, but you can consider it a fresh start. Buying a home right after completing a short sale isn’t always the best idea. It can put you right back where you started. In either case, take a breather and figure out what step is right for you. Consider the implications of another negative economic event in your future. Take things slow and buy the house you know you can afford not only now, but also well into the future as well.