Impact of Foreclosure and Short Sales On Your Credit Score
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If you are you are having financial problems that lead to foreclosure or short sale, your credit report will tell the story long after you have moved on. What is the impact? Is there a difference in the impact of foreclosure vs. a short sale when you sell your home?
Recently, FICO, the company that produces the credit score used by many lenders to evaluate creditworthiness, offered some surprising answers to these questions – and added some new insights as well.
Bad news for high scorers
First, FICO sees little difference between a foreclosure and short sale. In either case, the lender received less than the balance of the loan, so the defaulting homeowner might lose from 85 to 160 points from his credit score. Why the range? The steepness of the fall depends on what the score was to start out. High scores lost more points than ones that started out low. A high 780 score would lose the 160 points, while a mid-range score of 720 would lose 130-150 points, and the low score of 680 would lose “only” 85-105 points.
The same pattern of dinging high credit scores more heavily than low ones prevails with late payments too. When 30 days late, a high score might lose 90-110 points, plus an extra 20 if they were 90 days late. Low scorers are zapped 60-80 points whether they were late by 30 days or 90.
Here’s the kicker. A borrower with a high score will not recover from a late payment for three years in comparison to only nine months for a someone with a lower credit score.
This information seems at odds with the advice of most housing counselors to pursue a short sale rather than letting the house go into foreclosure. FICO says that someone who underwent a short sale would be better off only if the lender did not report the shortfall – a difference of only 35 points.
So, why pursue a short sale instead of a foreclosure?
When you go to sell a home, a short sale offers more control over the process. They may feel depressed that they have to give up the house, but they have more of a sense of closure on a bad situation. They can plan their future more easily than with a foreclosure.
When they go to buy another home, they should be able to do so in 24 months at a good interest rate. This assumes that they have kept their payments current after the short sale.
Though most analysts claim that either default impacts the report the same, there is a difference by state as to the impact. Borrowers from some states have reported hits up to 300 points from foreclosures and 100 points from short sales.
With a short sale, the homeowner remains with the property until closing, just as in a normal sale. As a result, the home is not left vacant for long periods of time, which keeps the property values intact and reduces neighborhood vacancy rates. The lender does have to maintain the property or see the value further lessened by vandalism and theft.
Banks benefit too
The lender accepts less than loan value with a short sale, but is spared the extra legal costs of pursuing a foreclosure in court. According the Joint Economic Committee of Congress, the average foreclosure costs $77,935 while preventing a foreclosure runs $3,300; the figures for the cost of a short sale are not given, but the major costs include processing and loss on the loan, without the court costs and property maintenance.
Though both short sale and foreclosures have roughly the same impact on credit scores, a short sale has many advantages both to the seller and the lender when selling a home. Since short sales are a remedy that costs lenders less than foreclosure, some lenders may look more kindly on short sales. As short sale is considered by some to be the best way to help our country get past the housing crisis; a time may come when this philosophy might be reflected in the scores themselves.
Have you experienced a short sale or foreclosure? If so, what advice can you offer based upon your experience?
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