real estate

Short sale hits credit regardless of cause

Steve McLindenQuestionDear Real Estate Adviser,
We were forced to relocate 19 months ago due to job loss. We are upside down in our mortgage on the old place and renting it out for much less than the payments. We can't afford to keep doing this and would like to do a short sale. However, we are worried about the credit impact because we'd like to buy a house in our new town in about 18 months. Would the lender show any sympathy due to the circumstances or treat us just like any other short sale?
-- Carole B.

AnswerDear Carole,
First off, you'd better get things rolling because the short-sale process can be lengthy and frustrating. The sheer volume of documents, price opinions, people involved, conflicting agendas and other considerations are daunting, and some agents say as few as 20 percent of short sales are successful on the first go-round. The pipeline is slowed by a still-high volume of short sales. The process of divesting yourself of a property this way may be a little faster if you are dealing with an independent bank, I'm told, but that's not a certainty.

A short sale, which means you're selling your home for less than what you owe, still leaves a dark splotch on your credit, no matter what precipitated it. Hence, you may have to lengthen your buying horizon in the new town to at least two years. The nation's two biggest mortgage backers, Fannie Mae and Freddie Mac, usually won't lend within two years of the settlement of a short sale, and that's only if you can prove such extenuating circumstances as a medical condition or employment loss -- which you apparently can. A private lender may be able to hook you up with a mortgage a bit sooner if your income supports it, but you'd probably pay sky-high interest and a whopping down payment.

Typically, most short sellers take about a 100-point hit on their FICO scores, a demerit that will shrink over a minimum of two years as your credit behavior compensates for the short sale. A foreclosure or deed-in-lieu of foreclosure, on the other hand, can deflate a person's credit score as much as 280 points, resulting in at least a five-year repair period.

Ask the lender for a waiver of deficiency in your short sale so you won't owe the difference when the deal is done. Some banks -- not all -- grant full or partial waivers and take write-offs in order to clear bad loans off their books as "settled debt." By the way, such debt forgiveness used to result in "taxable income" to its recipients until the arrival of the Mortgage Forgiveness Debt Relief Act of 2007, which was recently extended through 2012. (The balance of your loan must be $2 million or less to qualify.)

By now, lenders have seen it all and heard it all when it comes to hard-luck stories and probably won't extend any more "sympathy" to you than they do to the many others who have fallen victim to the times. But here's hoping you are given enough latitude to facilitate the freshest possible restart.

Good luck!

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