I’m sure I don’t have to tell you how stressful financial hardships can be. If you’ve come across this article, it’s most likely not for a little light reading – you need answers, and you need them soon. You may be considering a deed in lieu, short sale, or foreclosure to help get your head above water. But what are the repercussions of these options to your credit report? Which is less likely to make the least amount of damage to your credit, a short sale or deed in lieu?
The answer is that they both will affect your credit score in similar ways. You should expect negative marks in your credit report’s “on-time payments” section, as banks will only begin to consider these options once you’re behind on your mortgage. However, late payments are easier to recover from than a foreclosure on your credit history, so it’s worth the effort to go for either a deed in lieu or a short sale.
While they affect your credit score similarly, the way they work is much different. Let’s discuss what each of these real estate terms means and what you should do to protect yourself from any losses the bank may look to recoup.
WHAT IS A DEED IN LIEU OF FORECLOSURE?
“Deed in Lieu” is a fancy-sounding term, isn’t it? It means giving the bank your home. This happens when you cannot make payments on your mortgage due to financial hardships. It isn’t automatic; you have to ask the bank if they’ll consider a deed in lieu of foreclosure.
Going through the foreclosure process is a headache for both the homeowner and the lender. If the bank can save themselves the time, money, and effort a foreclosure takes by simply taking over the property now, they might be willing to cut their losses and do just that. It seems like a long shot, but your bank may be more interested than you think.
WHAT IS A SHORT SALE?
A short sale works differently than a deed in lieu. With a short sale, you as the homeowner are most likely working with an agent to find someone to buy your home. This is also due to financial hardship and keeps foreclosure off your credit history.
With a short sale, the buyer will often pay less than what is owed to the bank. They’ll need to be approved by your lender. You can’t tell them, “Sorry, I can’t make payments anymore. John Smith owns the place, so deal with him. See you later!
That said, a bank may consider a short sale due to how easy you’ve made it for them. Instead of going through the foreclosure headache, carrying the cost to maintain the home, and getting it sold, you’ve already lined up a buyer ready to sign a purchase contract today. A short sale removes the extra burden a lender would have by cutting their losses and starting with a new buyer now rather than accruing more costs to find another buyer later.
DEED IN LIEU VS. SHORT SALE CREDIT DAMAGE
Whether you try to go through a short sale or deed in lieu, you should expect to see a hit to your credit score. However, either option is better than having a foreclosure show up on your credit report.
Two things need to be made explicitly clear regarding short sales and deeds in lieu. Make sure you understand these two terms and make them clear in your legal documents so that you’re not haunted by a home you no longer occupy.
Deficiency Judgement – If your lender takes a loss through either method and receives a deficiency judgment from the courts, they can go after you for the difference.
Let’s say you had a mortgage for $200,000 and owed $150,000, which you couldn’t pay. The bank then ends up selling the home for $100,000. Because the bank did not recoup that $150,000 through the house’s value or a short sale and petitions the court for a deficiency judgment, you’ll legally be required to make up that $50,0000 difference.
Full Satisfaction of Debt – This is how to avoid that deficiency judgment. Full Satisfaction of Debt is a clause in your final agreements with the bank which clears you from any financial obligations. There is particular verbiage that must be used in this clause to work. Don’t be like Michael Scott and “declare” bankruptcy; contact an attorney who can make sure you’re protected.
WHAT TO EXPECT FOR YOUR CREDIT REPORT
If you can avoid a foreclosure and deficiency judgment, the most significant repercussions you can expect to your credit report will be in your “on-time payments” category.
As you can no longer make payments on your mortgage, your credit report will show negative spots in the 30, 60, and 90 days “late payment” sections. You may also receive multiple hits in these sections depending on how long you wait to get rid of your home.
While it may be disheartening to see your credit score go down, having these late payments is far better than a foreclosure.
WHAT SHOULD I DO IF I THINK I WON’T BE ABLE TO PAY MY MORTGAGE?
This is never a fun question to answer, as homeowners searching for this question are usually in an emotional and stressful position.
The bad news is that working hard to make ends meet and keep your payments up to date will work against you. Your lender will see that you pay your mortgage in full, on time, so they won’t be interested in taking less than what’s owed. Consequently, you’ll have difficulty trying to talk them into either a deed in lieu or a short sale.
Once you start missing payments, you have a few options. Be upfront about your situation with your lender; don’t hide from them or dodge their calls. They’ve dealt with homeowners in your case many times and won’t be as judgmental as you think. In the end, they just want to find the lowest barrier of entry to get their money back. The more willing you are to keep them informed, the better your chances of having them work with you.
Document your hardships as clearly as you can. If there is any associated paperwork, like a notice of being laid off or medical debt, keep those records. It’s also worth talking to different departments at the bank, as one hand won’t often know what the other is doing.
If you’re hoping to get a deed in lieu, bring it up with the bank as soon as you can. They might not be interested in going that route as it means they’ll be the ones who have to sell the home and deal with all associated costs. The sooner you understand your options, the better chance you’ll get what you want.
If you’re planning to go a short sale route, you might not need to involve your bank just yet. You should, however, start talking with an agent who is familiar with the short sale process. As with all things in real estate, short sales can get complicated, so you must have an experienced agent on your side in navigating the process.
In the end, it might not matter which option you prefer. It will come down to which route offers you the Full Satisfaction of Debt clause. Don’t underestimate how powerful this clause can be; make sure that whichever option you choose guarantees that the stipulation is seen as resolved in your contract.
Make sure that you consult an attorney when deciding to revoke your ownership of a home, as they can guide you through the requirements your state has. While you can expect a hit to your credit report no matter which route you choose, having either a debt in lieu or a short sale is vastly superior to a foreclosure.
Do you have any tips for homeowners dealing with financial hardships? Leave a comment below and let us know.