Short Sales and Credit Scores

With short sales still on the rise, lots of folks need to know how credit scores are going to change with going with a short sale.

First, let’s begin with the definition of a short sale. A short sale is when a consumer of real estate in which the proceeds from the sale fall short of the balance owed on a loan secured by the property sold.

A few months ago, a friend of mine wanted to advise a relative on doing a short sale and he thought it was a good idea becasue he thought it would be less damaging than a foreclosure.

At the time, I told him that in terms of the credit score, both a foreclosure and a short sale are seen as the same. Both will probably take your credit score down from 100-200 points depending on how they started. [the larger the score, the harder the fall]. That is accurate advice, but let’s look at a few other components.

While the scores may be the same. Fannie Mae sees someone with a short sale as more attractive than someone who went through a foreclosure. How? Well they extend the waiting period for people with a foreclosure to 5 years versus 2 years for a short sale:

• Foreclosure: 5 years from completion date; additionally between 5 and 7 years you can only purchase a personal residence, and must have a minimum of 10% down and 680 credit score. Also you can only do limited cash-out; no regular cash-outs are permitted. After 7 years you’re back at square one.
• Deed in lieu: 4 years from completion date; also 10% down payment required between years 4 and 7.
• Short sale: 2 years from completion date.
• Chapter 13 bankruptcy: 2 years from discharge date or 4 years from dismissal date
• All other bankruptcies: 4 years from either the discharge or dismissal date

Hence, while your credit score will probably look the same in a foreclosure versus a short sale, your ability to climb back into home ownership is shorter with a short sale. Plus, we’ve seen that users can get a higher credit score in just a few months and climb back to a great score in 18 months to 2 years.

Lenders hated doing short sales but now the government has put incentives in place to encourage short sales vs. foreclosures.

Why did lenders hate short sales? Because the second mortgage and heloc holders thought they’d get left with nothing. In a house worth $300,000 but it had a first mortgage of $320,000 and a second mortgage of $40,000, they thought they’d be left holding the bag, so they’d balk. Often the risk of a foreclosure was worth it to the banks, who thought, even with carrying costs [homes could be on the market for months] they’d still come out ahead.

Several factors are changing this story. First, the carrying costs are getting higher, and the banks are starting to get incentives to close the deal sooner.

Under the new regeared housing aid plan, mortgage servicers can receive $1,000 for the successful completion of a short sale or deed-in-lieu transaction.

Now, back to the question. Sure, your credit score is impacted either way, but if you think you are going to need a Fannie backed loan [many of us do] in the next few years, then a short sale is better for you.

What should you do? You won’t be able to stop your credit score drop. But you can get educated by getting your FICO credit score and then going through the credit score lessons to understand how the system works and what you can do to make sure your credit score comeback is shorter than average.

If you do think about a short sale, you should get these materials together and start talking to your bank.
Required Documents

• Copies of statement for ALL bank accounts from ALL borrowers for the last TWO months. ALL pages.
• Copies of pay stubs for ALL borrowers for the most recent 60 day period
• Copies of FEDERAL tax returns (not state tax return) for the last TWO years (only first 2 pages of the returns)
• Statements from all credit debt and medical statements in delinquency status
• Letter of hardship (see enclosed sample)
• Financial Statement (i.e., monthly expenses; see enclosed sample)
• Recent statement from EACH lender
• Notice of Default or Notice of Trustee Sale letter from your lender (if you have them)
• Most recent hazard insurance statement / Property Tax Bill
• Most recent HOA fee statement (if applicable)
• Most recent listing agreement to sell property
• Detailed CMA from Listing Agent

Additional Helpful Documents

• Latest appraisal
• Most recent inspection reports (termite, contractor, roof, etc.)
• Recent letters from lenders about delinquency (name and contact info)
• Lender’s loan payoff quotes (if possible)
• Letters from other lien holders (e.g., IRS)

Similar Posts:

• How Much Will A Foreclosure Impact My FICO Credit Score? – Episode #49
• Credit Score Estimator Can Estimate Your FICO Score – Episode #89
• How Do I Get an Apartment with a Bad Credit Score Caused by a Foreclosure? – Episode #50
• Reason Codes: What They Mean for My Credit Score – Episode #109
• How does a Realtor® prepare a client to get the best FICO credit scores? – Episode #51
• Can Grocery Ordering Online Improve My Credit Score? – Episode #43