There exists a lot of misunderstandings about foreclosures and short sales. Which should you use and why? Will your credit score be impacted just the same way by both of them?
When you buy a house, you typically make a deposit and then set up a mortgage amortized over a number of years. The house is used as collateral and if the homeowner is unable to make monthly mortgage payments, the credit institution has the right to seize the property in order to recoup their losses.
Now let’s compare these two options:
Foreclosure is the means by which a lender gets title to a property because of homeowner’s loan default. The lender recoups their own loan investment by simply selling it at the trustee sale. If there are usually no other potential buyers, the bank takes the exact property into inventory as real estate owned (REO). Banks are not in the business of property proprietorship nor management, and they are legally obligated to sell off these kinds of non-performing assets.
On the other hand, short sales are properties sold before foreclosure at a discount for the reason that current market value is lesser than the loan amount. The homeowner still has the title but the sale must be endorsed by the bank, who endures a capital loss upon sale. To keep away from the extra cost of the foreclosure process, banks are willing to sell properties at or below market value.
According to Re/Max, the average price of foreclosed houses was $185, 000 while that of other regular properties was $267, 300 in May 2011. In addition to prices, bank owned properties can be bought much more quickly over a typical short sale made.
Despite the low price, bank owned properties have their share of problems. These foreclosed properties typically sit vacant for weeks or even months, lack regular maintenance, attract squatters as well as copper thieves and need repairs. Most banks promote their foreclosed properties in an “as is” condition. So, anyone who will buy must find what repairs are essential and invest money and time to fix those difficulties.
This type of distressed property is in relatively better condition, and often repairs are not necessary. Since properties are still occupied by homeowners, the house is usually maintained. Roughly 80% of these properties are of good quality.
However, short sales have their drawbacks. This type of foreclosure may take a long process, requiring months to complete. You need to be qualified and have a much longer time horizon to buy the property. Reason for the long process is that all pledgees must approve the sale. But, the short sale process can be sped up if the sellerâ€™s agent is experienced in negotiating with the bank and closing short sales.
Depending on the state a borrower lives in, foreclosure may or may not involve the judicial system. Following three to six months of missed installments, a loan specialist will record a notification of default, which informs a borrower that he is confronting foreclosure and gives him a reestablishment period to make things right by paying off obligations or settling any dispute. The length of the reinstatement period changes by state, with a few states giving borrowers a negligible five days to settle disputes and obligations and others giving up to 90 days.
If the home loan’s unpaid balance is not paid off within three months, the mortgage holder gets a notification of sale. The property is then sold at a trustee sale to the highest bidder, who must pay in real money inside of 24 hours. The opening offer is generally equivalent to the outstanding balance and any extra lawyer charges the bank might have incurred.
When the market value of the property is less than the outstanding mortgage principal, and the borrower cannot afford to pay the loan, the lender (one or more banks) can choose to accept a short sale. In a short sale, the proceeds from sale of the property falls short of the mortgage balance, which is one reason lenders may hesitate to accept the offer for a short sale. Any unpaid balance owed to the lenders after a short sale takes place is known as a deficiency. Short sale agreements are not necessarily borrowers releasing themselves from their obligations to repay any shortcomings of the loans unless explicitly agreed between the parties.
Distinctions Between Short Sale & Foreclosure
- For borrowers: The current government is actively trying to halt the tide of foreclosures in the United States. For this purpose they began the MHA program, which stands for Making Homes Affordable and is an attempt to reduce the mortgage payments on both primary and secondary mortgages. The hope is that more people are able to stay in their homes will be.Those borrowers who are still unable to keep their homes, even with the help of the MHA program can use a short sale as a way to get out from under their obligations to the lender. If this was the primary residence of the homeowner, they are not liable for taxes on the forgiven debt, and may even be eligible for a $ 1,500 to help pay for moving expenses.
- For Lenders: Lenders participating in the MHA program are required to reduce the mortgage payments in an effort to make payments affordable. Under this program, lenders can also get up to $ 1,000 in incentives, even without loan modification. To make this possible, the lender must allow a short sale if the borrower prefers this option.
- Credit Scores: Neither foreclosures nor short sales offer an advantage over the other in terms of the negative influence on a personâ€™s credit score. Industry experts along with Freddie Mac and Fannie Mae say that this decline in credit ratings will be between 200 and 300 points.
- Waiting time between mortgages: Freddie Mac and Fannie Mae guidelines stipulate that a borrower must wait for 5 years before qualifying for any new mortgage following a foreclosure. In the case of a short sale, the waiting period for a new mortgage is merely 2 years.
As a homeowner, if you qualify for aid that will lower your payments, maybe you will be able to avoid a foreclosure. If not, trying to work out a short sale with your lender probably is your best bet.
From the lenders standpoint a short sale might be best because foreclosures might be both costly and time intensive. Ultimately the impact of your foreclosure to your credit rating and ability to borrow later on is reason to choose the short sale above the foreclosure. Lenders will look more favorably on the borrower that tried to cooperate with the bank (via short sale) than one who just walked away.