Financially distressed homeowners not only face painful personal circumstances, but also they must consider choices that have both tax and credit implications. While a variety of professionals may be able to explain taxation issues in these circumstances, not as much seems to be known about credit consequences - other than that they are bad.
Recently, the legal department of the California Association of Realtors® (CAR) issued a memorandum titled "Credit After Foreclosure, Bankruptcy, or Short Sale." It is an extremely useful document for those who have questions about how credit is affected by the various ways in which one might lose his or her home.
In large part the memo is based on the 2008 update of Fannie Mae guidelines (Fannie Mae Announcement 08-16), so it should be clear that the explanations are not completely general or unqualified. When, for example, it is said that a person is not eligible to obtain a home loan for a certain number of years, that means that Fannie Mae won’t buy a home loan made to that person during that time. Granted, most lenders want to be able to sell their loans to Fannie Mae or Freddie Mac (whose rules tend to be similar), but there might be portfolio lenders or other institutions that would make such a loan.
That said, it is well worthwhile to review the contents of the memo.
Five years after a foreclosure, a consumer may be eligible to obtain a home loan. Of course, certain restrictions may apply. At least a ten percent down payment is required, and a minimum credit score of 680. Also, purchase of a second home or investment property is not permitted.
A consumer may be eligible three years after foreclosure if "extenuating circumstances" had led to the foreclosure. Extenuating circumstances are "nonrecurring events that are beyond the borrower’s control that result in a sudden, significant, and prolonged reduction in income or a catastrophic increase in financial obligations."
Four years after giving a deed-in-lieu of foreclosure, a consumer may be eligible for a home loan. If there had been extenuating circumstances, that period is shortened to two years.
In the case of a short-sale, when the mortgage had been delinquent, a consumer may be eligible for a home loan two years after completion of the short sale. There are no exceptions due to extenuating circumstances.
If the consumer had executed a short sale, but had not been delinquent on his or her mortgage, then there is no two-year period applicable. To be eligible for a home loan, the borrower must not have had any mortgage delinquencies of sixty days or more during the past twelve months, and the borrower must not have "entered into any agreement with the short sale lender to repay any amounts associated with the short sale, including a deficiency judgment."
In the case of bankruptcies, other than Chapter 13, there is a four year period from the discharge or dismissal date of the bankruptcy before the consumer may be eligible to obtain a home loan. With a Chapter 13 bankruptcy, the period is two years.
It is frequently said that short sales have a less damaging effect on credit than do foreclosures. While this may be true with respect to the length of time before one can obtain a home loan again, it should also be noted that a short sale has no greater effect than a deed-in-lieu when there are extenuating circumstances. Moreover, it is certainly not true with respect to one’s FICO score. A deed-in-lieu, a foreclosure, or a short sale all have the same impact as far as FICO is concerned. Some people will not believe this. They should visit the FICO web site and look at the question regarding alternatives to foreclosure.
Published: March 23, 2010
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