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With the economy in distress and mortgage defaults
at a record high this question has come up often among professionals
and consumers. I have held off on writing about this topic
because of so many conflicting answers uncovered in my search
for the facts.
What is a short sale (for those of you who are not
familiar with its definition)? A short sale happens when
a lender agrees to accept less than the amount owed against the home
because there is not enough equity to sell and pay all costs of
sale. For example: John and Mary Smith owe $300,000.00 on
their mortgage to the Lender. They have an offer of $100,000
from a buyer on their home. After careful review of the facts
supplied (and usually a long time) the bank accepts $100,000.00 as
full settlement on the mortgage and forgives the $200,000.00.
The government also forgives the taxable debt they would owe on the
$200,000.00 of income John and Mary received from the short
sale. Before the Real Estate bubble burst the government would
have viewed the $200,000.00 forgiveness of the Lender as income to
John and Mary and they would have been 1099 for it.
When it comes to the Fico Scores the truth is a short sale is just as
bad as a foreclosure in terms of your credit score. Here is
what Fico says:
"The common alternatives to foreclosure, such
as short sales, and deeds-in-lieu of foreclosure are all "not
paid as agreed" accounts, and considered the same by your FICO®
score. This is not to say that these may not be better options for
you from a financial perspective, just that they will be considered
no better or worse for your FICO score. If you are considering
bankruptcy as an alternative to foreclosure, that may have a greater
impact to your FICO score. While a foreclosure is a single account
that you default on, declaring bankruptcy has the opportunity to
affect multiple accounts and therefore has potential to have a
greater negative impact on your FICO score."
The information I have gathered from FICO states
that the higher your credit score the greater the drop. It
doesn't matter if you have either a foreclosure, a short sale, or a
settlement the score will see it as the same negative impact.
It should be clear that a short sale is listed on the credit report
as a "Settled for less than full balance" or
"Settlement accepted" and there will be NO mention of
"short sale" anywhere. Your score could drop anywhere
from 70-150 points. If there were late payments prior to the
settlement it could drop an additional 80-150 points.
Fico states that the higher your score is before the delinquency the
lower it will drop when the settlement is updated.
There are other variables that impact the credit
as well. Is the consumer late on other accounts? If
there are late payments on revolving credit (credit cards and lines
of credit), installment loans (student and cars), or other mortgages
(multiple mortgages) the score could be even lower. How much
credit does the consumer have? If they only have one credit
card and a mortgage it could reflect differently than someone with
10-15 different good accounts. It is hard to say exactly what
number amount a score will drop for each person who has the same
negative. Every credit report is different since every credit
profile is unique to the individual it represents. The facts
are clear that the score will drop significantly and it can't be a
good thing for your credit Fico score.
We have seen this same outcome when it comes to late payments for
consumers as well. When we see just one 30 day late payment on
a score of 750 you can see a drop of sometimes 70-100 points.
When a consumer has been late many times on many items and their
score is in the low to mid 500 range it may not drop much more when
new charge offs, judgments, and or collections are updated. The
score usually lingers in the same low area. It seems you can only
go so far down in score once you begin to default. Each late
payment, collection, charge off or bankruptcy is not considered
70-100 points once your score has taken a great plunge.
When it comes to getting another mortgage in the future there is a
difference in going to foreclosure or a short sale.
This should be discussed with your Mortgage Professional.
You may have to wait longer to be approved for a mortgage from
the date of a foreclosure depending on the type of loan you are
applying for.
Remember that no credit situation is beyond hope for a brighter
future. All credit can improve and be excellent no matter how
bad it might be now. Once the financial stress is over we
can begin to raise your credit score and educate you on your part in
the process.
"Great credit brings
great opportunity"
Copyright ©2009 North Shore
Advisory Inc.
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