How Foreclosure, Deed in Lieu, and Short Sale Affect Credit Scores

By Xin Lu on 13 November 2009 (Updated 6 January 2010) 4 comments

Currently millions of Americans are delinquent on their home loans or facing foreclosure. Foreclosure, deed in lieu of foreclosure, and short sales are several ways for borrowers to get out of a mortgage that is no longer affordable. Here is a quick guide to what these options are, and how much they could affect one's credit score.

Foreclosure

A foreclosure happens when a borrower has defaulted on a property and the lender claims ownership of the property. Usually lenders start the foreclosure process after three missed payments. The property would then be sold at a public auction. The impact of the foreclosure to a borrower's FICO score is around 200 to 300 points if you include the effects of the missed payments. A foreclosure stays on your credit report for seven years.

Deed in Lieu

A deed in lieu of foreclosure is where the borrower gives the deed back to the lender with the lender's approval. The lender also forgives the remaining balance on the loan. The borrower still loses the home. It depends on how the lender reports this to your credit report but the credit drop could be as large as a real foreclosure and the record would stay for seven years. If your lender does accept a Deed in Lieu then you could try to negotiate with them to not put a foreclosure notification in your credit record, but if you had late payments your credit would still be affected.

Short Sale

This is not exactly a foreclosure, but a deal with the lender to sell a home for less than what is owed. Basically the borrower has to find a buyer who is willing to purchase the home at a price approved by the bank. The credit impact depends on how many late payments there are. If a short sale is completed without any late payments then the credit impact would be much less than that of a foreclosure. If the borrower accrues a significant amount of late payments during the short sale then the credit impact could still be as much as 200 points.

If you have to default on your mortgage, just remember that losing a home is not the end of the world and credit can be rebuilt. It generally takes two to three years for someone who went through one of the above events to qualify for another home loan. If a borrower keeps payments current on obligations other than the mortgage then the foreclosure would be an isolated negative event and that would not be indicative of a history of bad credit. This is why those who strategically walk away from their homes keep current on their credit cards and other loans because they can get back their "prime" credit score fairly quickly.

Have you gone through one of these events? How did it affect your credit score?

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Guest's picture

Interesting article especially after reading about Nicolas Cage who has lost two of his houses due to foreclosures. Maybe he should have read this page first before he over extended himself.

Guest's picture
Guest

As we all look for new investment opportunities I have found a new resource for Distressed debit investing through buying pre-foreclosure notes through auction. Has anyone been engaged in this activity. Check out www.RealtyNoteBid.com and let me know your thoughts…has anyone used them. Do you have any other resources.....

Guest's picture
Guest

Well, most of the people posting on this site seem to think they are such great people that look down on those losing their homes. Well how about this? I put down $100,000 on my home in 2007 and now it has dropped $200,000. Why do all of you seem to think all the loss should fall on the buyer? The banks should take some of it too! Their system is so screwed up that you can't get a modification unless you're at least 30 days late on your payments. Now they want an exorbitant amount of money for 6 months with all their fees...that they call a re-payment plan. We can't pay it, so they want to take our house. This is wrong! The banks aren't innocent! They are making money off of our misfortune and I've lost $100,000. So sorry I'm not as good as all you saints and I can't keep up with their demands!!!

Guest's picture
Underwater

I would have to agree with Guest who lost 100,000. The people that did the wrong thing got bailed out. The people that did the right thing, got the bill and no relief.