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Credit Effects of a Short Sale

credit scoreOne of the most common questions we hear from our clients is “How will a Short Sale affect my credit?” Honestly, there is no perfect formula that we can plug your situation into to determine the impact on your credit but we can provide factual information that will help answer this question.

Here is what we know:

  1. A short sale and a foreclosure will have a negative impact on your credit score, but in every situation we have seen, the impact is less with a short sale.
  2. The biggest impact on your credit is always caused by late payments and with foreclosures taking much longer than a short sale, there are more late payments for the credit bureaus to account for.
  3. Credit bureaus are more forgiving if the loan is “settled,” like it is in a short sale, while in a foreclosure or a deed in lieu, a “default” is recorded.

The number of credit cards, total liabilities, late payments on one loan vs. all loans, balance on credit cards, the list goes on and on.  Each one of these factors impacts your score and the impact it may receive.

In addition, the credit impact should always be viewed in two ways.

The first, as highlighted above, is the more immediate credit impact realized by a short sale or foreclosure.  The other way, which is overlooked more often due to a borrower’s frustration with homeownership, is the impact of when you can buy a home again.

Can you buy a home again? Just because this home didn’t work out for you, do not overlook the long term benefits of buying the right home at the right price.  In fact with rates continuing to hover around 4% for the foreseeable future, buying again and staying put for the long term can provide a great way to build equity while you still benefit from the tax deductions and security only owning a home can provide.

As outlined in this graph below, you can see that the largest providers of mortgages, Fannie Mae, Freddie Mac, and FHA provide a huge incentive to do a short sale versus a foreclosure.  It takes almost twice as long to buy a home again through them if someone chooses foreclosure.  Since these three government-backed agencies account for almost 90% of the mortgage market, this is a good graph to reference.

For people who have an FHA backed loan, the time to buy again after a short sale can be as little as three years through FHA’s Back to Work Program. And for Fannie Mae and Freddie Mac loans, the waiting requirements just got shorter. After a short sale, a borrower is eligible for a new Fannie Mae or Freddie Mac mortgage after only a 2 year waiting period with a 20% down payment, and four years with a 10% down payment.


When You Can Buy A Home Again After a Short Sale

These rules are fairly strict but we have seen exceptions to them. Some of our clients have purchased again within two years, so use this information as a reference but know that they may not be exact to your situation.  The following excerpt from the FHA Short Sale guidelines shows some exceptions to the rule:

Section 402 from FHA Short Sale Guidelines

  • Borrower Current at the time of Short Sale.  A borrower is considered eligible for a new FHA-insured mortgage if, from the date of loan application for the new mortgage, all
    • Mortgage payments due on the prior mortgage were made within the month due for the 12 month period preceding the Short Sale, and
    • Installment debt payment for the same time period was also made within the month due.
  • Borrower in Default at the time of Short Sale.  A borrower in default on his/her mortgage at the time of the Short Sale is not eligible for a new FHA-insured mortgage for three years from the date of the pre-foreclosure sale.
  • Exception.  A lender may make an exception to this rule for a borrower in default on his/her mortgage at the time of the Short Sale if the
    • Default was due to circumstances beyond the borrower’s control, such as death of a primary wage earner or long-term uninsured illness, and
    • A review of the credit report indicates satisfactory credit prior to the circumstances beyond the borrower’s control that caused the default.

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