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Short Sale or Foreclosure?

There are many homeowners who are now faced with the burden of not being able to make their mortgage payments, and who are finding they have no equity in their home. If they are in a situation of having to sell, they find themselves in the precarious position of deciding if they should “Short Sale” their home or just let it go to foreclosure. Generally speaking, foreclosure is the most harmful to your credit. A short sale is becoming increasingly useful as a means by which a homeowner, who is mired in financial problems, can sell his home with less damage to his credit. But be aware, either avenue is fraught with credit problems.
Foreclosure or Deed-in-Lieu of Foreclosure

  • In a foreclosure, the homeowner cannot make her payment and eventually the bank takes the home back through foreclosure process. The bank then offers the home on the market, usually at a reduced price.
  • A negative implication of a foreclosure is that the bank can seek to collect the full amount you borrowed, plus legal fees, and default interest.
  • As you seek to rebuild your life and income, the bank can garnish your wages and seize money from your bank account.
  • Not only will you lose your house, but the lender can get a judgment against you for the amount you owe, plus the costs of the foreclosure action, and it will remain as a public record on your personal credit history for ten years.
  • By being foreclosed upon, homeowners will take a hit of at least 280 points on their credit score. This means if a homeowner’s FICO score before foreclosure was 680, it could dip as low as 400. The banks have the right to pursue a deficiency judgment to collect the loan balance, which may ultimately mean bankruptcy for some.
  • In most cases, foreclosure is not in your best interest and should certainly be used as a last resort.

Short Sale

  • A short sale is when you sell your property for less than you owe the bank.
  • To accomplish a short sale, a borrower must list the property for sale with a broker for at least three months and give all of his/her financial information to the bank before the bank will decide whether to allow the short sale to proceed. The idea is that if a person can afford to pay the mortgage or if the house can be sold for enough to pay off the mortgage, the short sale may be denied.
  • In a short sale, all proceeds go to the bank, the bank then releases you from the loan and there is no further obligation to pay the bank.
  • After a short sale, you can repair your credit within a year or two. The affect of a short sale on a seller’s credit report is much less damaging than a foreclosure. The damage to credit will show up as a “pre-foreclosure in redemption status,” which will result in a loss of 80 to 100 points on your credit score. This means a short sale with a previous FICO of 680 will see it fall to 580 or 600.
  • Experts advise that you pursue this option the minute you realize that you are falling behind in your payments and most likely won”t be able to catch up. The longer you wait and the greater the amount you are in arrears, the less time you will have to discuss a short sale with your lender.
  • All brokerage commissions and attorney fees are usually paid by the bank at the closing, out of the sale proceeds.

A negative aspect to the short sale is that the bank may calculate the difference between what you owed them at the time of the sale of the property and their proceeds, and refer that amount to the IRS as income. For example, if you owed $500,000 on the property and they approved a short sale for $400,000, then you may be subject to a gain on sale for IRS purposes of $100,000. This is called forgiveness of debt. Short sales have increasingly become a significant part of the real estate market. Not all attorneys are conversant with the process, which can sometimes take upwards of six months, though some short sales are accomplished in a shorter period of time. Don’t just get any attorney to help you. If you are considering a short sale, you need to retain an attorney who is experienced in this area and who has successfully handled short sales and is familiar with the complexities of the situation. Your attorney knowing who to talk to, when to talk to them, and how to handle all the paperwork to get the deal done within a strategic time line can make all the difference in the world. Short sales are certainly a more desirable outcome than foreclosure, but it is not for the faint of heart and will not necessarily result in a quick sale. But with a dedicated and experienced attorney, it can often be an extremely viable solution to an otherwise insurmountable problem.

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