Note from Elizabeth Weintraub: There are different affects on credit and a borrower's ability to buy a new home if the borrower is not in default at the time of the short sale; however, this article addresses the affects of a short sale or foreclosure when a borrower is at least two month's behind in payments.
Many people call me wondering what effect a short sale or foreclosure (or deed-in-lieu of foreclosure) will have on their credit. Home owners hear such a variety of conflicting information, it's hard to know whom to believe.
Whether Short Sale or Foreclosure, Credit Ratings Suffer
Some real estate agents and short sale investors suggest to the distressed homeowner that a short sale isn’t as damaging to credit as a foreclosure. Given the inherent conflict of interest -- a real estate agent makes a commission on a short sale and doesn’t in a foreclosure -- the real estate professional should proceed cautiously when counseling a seller. The practical reality is, short sale or foreclosure, a home owner's credit will suck either way.
Many mistakenly believe that a derogatory public record such as foreclosure is somehow worse than petitioning the lender to accept less than owed by doing a short sale. In the world of banking, however, lenders interpret both of these events only one way: the customer did not pay as agreed.
It matters not to a lender the manner by which it suffered a loss; only that it did. Lenders go to great lengths to alert each other, by way of reporting to credit bureaus, that the defaulting homeowner is someone who, when the chips were down, didn’t honor a contract.
In fact, Fannie Mae and Freddie Mac take an even stronger stand against homeowners who renege on their obligation. "Seasoning" of a foreclosure is five years. The only highlight in the dismal situation is seasoning of a short sale is two years.
Short Sale Affect on FICO Scores
In the world of FICO scoring, there are three credit events that will severely sink a FICO score, and they all carry exactly the same weight. They are:
- Serious delinquency
- Derogatory public record
- Collection filed
A homeowner in default is technically "in collection." These events are reported to all three bureaus as "Score Factor Code #22."
Buying a Home After a Short Sale
A foreclosure may remain on a consumer’s credit report in the public records section for up to 10 years. In addition, this fact must be attested to on the loan application under Declarations, Section VIII, as follows:
- Have you had property foreclosed upon or given title or deed in lieu thereof in the last 7 years? (Y/N)
- Have you directly or indirectly been obligated on any loan which resulted in foreclosure, transfer of title in lieu of foreclosure, or judgment? (Y/N)
How do you answer those questions? See page two.
Catherine Coy is licensed in all 50 states for conventional, commercial, FHA and reverse mortgages.
At the time of writing, Elizabeth Weintraub, DRE # 00697006, is a Broker-Associate at Lyon Real Estate in Sacramento, California.