Can a Short Sale Hurt Your Credit? Yes It Can
Last Updated: March 30, 2017
You will find a lot of articles about foreclosures on this website, but not a lot of attention has been given to short sales. There is a lot of misinformation on the Internet as well as information you might be getting from your friends and family on whether or not you should do a short sale on your house or just walk away from it and let it go into foreclosure.
Before we dive into whether or not a short sale will hurt your credit, you first need to understand what is a short sale and what is the difference between that and a foreclosure.
Short Sale vs Foreclosure
A short sale is a property that sells for less than the balance owed on its mortgage. The bank must agree to grant a short sale and they are under no obligation to do so - and if the bank feels it is in the bank's best interest to approve this type of sale.
A foreclosure is where the home buyer has stopped making their monthly mortgage payments to the bank. There are numerous reasons why this has happened but the number one reason is that the house is worth way less than what the mortgage balance is so the owners do not want to throw away any more money. The owner would rather "walk away" from the house and let the bank take it over.
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Basics of a Short Sale
Short sales happen when a lender agrees to accept less than the amount owed against the home because there is not enough equity to sell and pay all costs of sale. Not all lenders will negotiate a short sale, and that is why a real estate agent or a lawyer can be a tremendous help by contacting the lender's loss mitigation department to find out. One aspect of a short sale is that lenders will generally not even consider a short sale if your payments are not current. So, if you are thinking of pursuing a short sale, keep paying your mortgage payments. This may not only help get your short sale approved, but it will also keep your credit score in tact - late mortgage payments can have a tremendous negative affect on your credit score.
How Will a Short Sale Affect Your Credit?
This seems to be the million dollar question, so to speak, and one which does not really have a clear cut answer. Reviewing all the available information, it seems there are as many answers to this question as there are supposed experts in short sales. Bottom line, a short sale will indeed negatively affect your credit score but the amount of the hit on your score is still out for debate. Some say it is as bad as a foreclosure while others say you will not be hit that bad. A lot of it has to do with how was your credit before the short sale and if you are current on your mortgage payments or not.
Fair Isaac recently released a report that says credit scores are affected about the same, whether you do a short sale or a foreclosure. Fair Isaac says the average points lost on a FICO score are as follows:
- 30 days late: 40 to 110 points
- 90 days late: 70 to 135 points
- Foreclosure, short sale or deed-in-lieu: 85 to 160 points
- Bankruptcy: 130 to 240 points
According to a mortgage broker in California, "the effect on a consumer's credit file - foreclosure vs short sale - is the difference between being hit by a train or a bus." Wow, that is comforting!
Can You Buy Another House After a Short Sale?
Being able to turn around and buy another home after a short sale depends on whether or not you kept your payments current during the short sale process. FHA adopted guidelines in 2010 that say a seller who is current and does a short sale may qualify to immediately buy another home. Other lenders, such as Fannie Mae, also followed these guidelines but you will need to do a little homework to see which banks are willing to give you another loan right away.
If you let some of your payments become delinquent, not only did that hurt your credit but lenders are now going to wait as much as 2 years before they will give you a loan. That is a far cry from the 5 to 7 years you will be waiting if you let your house go into foreclosure.
Which is Better a Short Sale or a Foreclosure?
It matters not to a lender why you failed to make your mortgage payments, only that you did. So, unless you can avoid being seriously delinquent, there is no credit score advantage to a short sale over a foreclosure. If you are able to minimize the immediate damage to your credit score and you can keep your payments current, this will allow you to obtain credit, such as auto loans or credit cards, thereby putting you on the road to credit recovery faster than those who suffered a serious delinquency on their credit report.
A homeowner who stops making payments at the beginning of the short sale process will have a very similar credit score effect as those who go through foreclosure. Each missed payment negatively impacts your credit score regardless of whether the house is sold as a short sale or foreclosure. As a result, your credit will be seriously damaged by either event if you allow yourself to become seriously delinquent.
So, the moral of the short sale story, if you have to go down this road, keep your payments current. Having little to no late payments will help you recover from the short sale and will help you get your next loan quicker. Your credit score might take a little ding, but not as big of a ding if you let your payments get delinquent.