What's worse, a short sale or foreclosure?

By Gina Pogol
Mortgage Credit Problems Columnist

Dear Gina: I lost my job a couple of months ago and want to move to a state with a better economy. I'm upside down with my mortgage and can't sell the home for what I owe. Should I try do do a short sale or just leave town and mail in my keys? - Dylan, Las Vegas

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Dear Dylan,

I'm sorry to hear about your problem. Short selling your home has advantages and disadvantages. I'll list them here:

Advantages of a short sale

The term "short sale" simply means selling your home for less than what is owed.

  • You may avoid bad credit; mortgage lenders have control over what they report to credit bureaus. Short sales are negotiable, and you may be able to get a less-damaging notation on your credit report and/or a complete walkway with no balance owed.
  • You avoid a deficiency judgment. In Nevada, lenders can choose to pursue defaulting homeowners in court when a foreclosure sale doesn't net enough to cover the mortgage balance. Negotiating a walkaway with your short sale deal solves that problem.
  • You avoid embarrassment. Foreclosure is a public event; it's recorded with your county and anyone can see what happened. Short sales are just recorded like ordinary property sales.
  • You will probably be able to buy another home much sooner if you choose a short sale over a foreclosure. You'll still have to fix your credit problems; mortgage lenders hate bad credit scores. But with a short sale you could possibly buy again in two years versus five to seven years for a Fannie Mae mortgage.
  • If your field is one in which employers pull credit reports on job candidates, a foreclosure could hurt your job prospects.

Advantages of foreclosure

Yes, choosing foreclosure over a short sale has its advantages, too.

  • You can save money. Because you're unemployed, I'm going to assume that you don't have a pile of cash with which to make your mortgage payments or pay a deficiency judgment. Foreclosure in Nevada is taking 319 days on average, which means you could conceivably go ten months without having to make a mortgage payment before you get evicted.
  • Your lender's permission is not required. To effect a short sale, you'll need the cooperation of your lender(s). They can drag out the process and drive you crazy.
  • Lenders may still try to get you to pay a deficiency in a short sale by slipping in legalese that obligates you to reimburse them for their financial loss on the sale. If they insist on doing that (and many do at the last minute) you are going to end up in foreclosure anyway, so you might as well control the process.

In many cases, the advice you get depends on who's giving it. Real estate agents always say a short sale is better, and by the way, they'd love to help you sell your home. Lawyers often prefer the negotiated deed-in-lieu of foreclosure or the foreclosure/bankruptcy 2-for-1 special, and by the way, they'd be happy to help you file.

In fact, there's no reason that you can't pursue both options at once -- write your hardship letter, and put your home on the market. If you can't afford your payments, stop making them and save up for your move to a better place.

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