Affects of Bankruptcy, Short Sale and Foreclosure on Credit Report

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The Affects of Losing a Home on your Credit Report 

Affects of bankruptcy, short sale and foreclosure on credit report are becoming clearer as we move forward through these wild economic circumstances. 

Here we are two years into the incredible economic damage caused by the collapse of the housing market and home foreclosures show no sign of slowing.  National data shows August 2009 foreclosures increased 18% over last year.  We all know someone who is going through hard times having lost their job, their stream of business, or their home.  With the increase in payment defaults on mortgages, the lending industry has been adjusting and clarifying the impact of the recent events like bankruptcy or losing a home through short sale or foreclosure on your credit. 

Short sales and foreclosure are the most common methods by which a lender would take back a home in the event that the home owner cannot sustain payments.  A short sale is the sale of property by the homeowner while they still own it, but foreclosure seems inevitable.  Since the home sale price will be inadequate to pay off the seller's mortgage, the lending bank will have to take a loss (go "short") on the loan when the home is sold.  This would show up on a credit report as a debt "settled for less than owed".  

A foreclosure occurs when a creditor exercises its right to take back the secured property upon default of the loan.  Foreclosures are costly to a lender and can take 6 months or more to execute. 

Short sales and foreclosures are reported on a credit report for 7 years.  A borrower's FICO credit score could drop 200 points, more or less after a short sale or foreclosure.  But if all credit payments have been made on time prior and during the short sale, score recovery can be quick, within 12 months. Re-establishing good credit is done by having a variety of credit sources and using them responsibly.  A lender will consider granting a new mortgage loan to a borrower 2 years after a short sale or as soon as 3 years after a foreclosure in some circumstances.  

In the case of a personal bankruptcy, FHA home financing lending allows a home buyer to be considered for a mortgage 2 years after the discharge of a Chapter 7 bankruptcy or after 12 months of on-schedule payments in a Chapter 13 bankruptcy.  Fannie Mae lending requires a 2 - 4 year period after discharge of a bankruptcy depending on circumstances.   

The current minimum FICO score requirement for an FHA home loan is 620.  Rebuilding credit is challenging after a bankruptcy, but can be done within 12-24 months with a focused effort by using secured credit cards, student loan payments, and on-time utility, insurance and rent payments.  The Chapter 7 bankruptcy discharge usually raises the FICO score from pre-bankruptcy late payment period because there are no "past-due" amounts showing on the report after the settlement of bankruptcy discharge.

If you or someone you know is in danger of losing their home, there is help out there.  The first step is to communicate with the homeowner's bank directly for assistance options.  There are many programs in place to help, but each loan and lender is unique in what they can offer.  If the lender cannot help, talking to a trusted mortgage broker can help clarify your options.  HUD counselors through the various non-profits are on hand to help by phone.  Making Home Affordable is a government sponsored program that helps direct homeowners though their options (http://makinghomeaffordable.gov/) and can help one find a housing couselor.  Paying a fee to have a service get you out of mortgage trouble doesn't always benefit the homeowner.  So try your free options first.

In these economic troubled times understanding what circumstances are within our control and which are not is important to clarify.  We need to accept what is out of our control, plunging home values for example, and make decisions based on our options and resources.  Sometimes talking about financial difficulties with a trusted friend can help us get out of "circular fear thinking" and give us a new way to look at our resources and circumstances. 

Talking about the possible loss of our home is a hard conversation to begin.  But bringing these hard choices into the open and shining a light on what the options are is the first step to getting to a new economic place.  Any distressed homeowner is in good company these days with one in every 144 homes in California is in foreclosure as of August 2009.  Any damage done to one's credit will one day recover, and until then credit restriction and restructuring may be a valuable financial move.

And remember, our truest assets are not ones we keep in the bank.