Short Sale Impact on Credit
Short sale is a procedure designed to help distressed homeowners avoid foreclosure. In a short sale, a homeowner agrees to sell her home to a buyer for less than what she owes on her mortgage. After coming to terms with the buyer, the seller's mortgage lender must approve the sale. However, a short sale may have a negative impact on the seller's credit score.
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Function
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Typically, your mortgage lender will report the short sale to the three credit bureaus, which will place the item on your credit report. Short sales count as a negative credit item and will lower your credit score, perhaps significantly. The exact number your credit score will drop varies.
Considerations
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In addition to the direct impact of short sale, the transaction can have an indirect effect on your credit score. In some states, lenders may pursue collection action to gain the difference between your home's sale price and the balance of your mortgage, known as the "deficiency balance." This counts as a collection account and will further lower your score. However, this practice is illegal in some states.
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Benefits
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Although a short sale negatively affects your credit score, it indirectly benefits your credit score by keeping you out of foreclosure. Additionally, you can work with your mortgage lender to reduce the impact of a short sale on your credit score, which would not be possible with a foreclosure.
Warning
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In a short sale, your mortgage lender will cancel your mortgage and forgive the debt you owe --- minus the deficiency balance, in some states. The Internal Revenue Service considers debt forgiveness a form of income. You will need to report the amount of your canceled mortgage loan on your next income tax return, and you will likely need to pay a large sum of the short sale "income" in federal taxes.
Future
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Short selling your home allows you to escape from a mortgage payment you can no longer afford to pay, giving you a fresh start to begin rebuilding your credit. Even though a short sale will initially damage your credit, making responsible financial decisions in the future will improve your credit dramatically.
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