From the monthly archives:

July 2009

Foreclosures and Short Sales Explained

When a homeowner defaults on a mortgage, the lender begins to consider options for recovering the money owed. They may negotiate with the borrower, adjusting payments or interest rates to keep him in the home. But in many cases, either a foreclosure or a short sale takes place.

What Is Foreclosure?

If a homeowner in default does not attempt to negotiate with his mortgage lender, or if negotiations fail, the home will usually go into foreclosure. This involves the lender obtaining a court order of repossession. The bank then puts the property up for sale.

When the home is sold, the lender receives the proceeds up to the amount owed plus repossession and selling costs. If there is any money left over, it is distributed to other lienholders. Once all leinholders are paid in full, if there is still money left, it goes to the former homeowner.

In general, foreclosure is a long, drawn out process. It usually begins when the homeowner is three months or more behind on mortgage payments. The lender issues a Notice of Default, and may demand repayment of the loan in full. If the homeowner does not meet the requirements of the Notice of Default, the lender can begin court proceedings.

What Is a Short Sale?

In a short sale, a home is sold for less than the outstanding balance of the mortgage. This is often used as a means of preventing foreclosure. But in rare instances, a short sale may take place even if the borrower is up to date on his payments.

The idea behind a short sale is to recover as much of the money owed as possible and avoid the expense and hassle of foreclosure. It is up to the lender whether or not a short sale is allowed. If they believe that the proceeds from a foreclosure minus the costs will be less than the proceeds of a short sale, they will usually allow it. Otherwise, they will go forward with foreclosure.

Which Is Better?

Neither a foreclosure nor a short sale is desirable. Both result in the homeowner losing his home, and both can have similar effects on one’s credit score. But in some instances, one or the other may be considered the lesser of two evils.

When undergoing foreclosure, a homeowner may have the opportunity to stay in his home for several months before he is forced to vacate. The time frame varies according to state laws, but it is almost always longer than that of a short sale. Short sales are set up to be completed quickly, so the homeowner will need to leave quickly.

But if you play your cards right with a short sale, you could potentially escape with less damage to your credit. If the lender strongly prefers a short sale, they may be willing to agree not to report the short sale to the credit bureau if you consent to it. Your chances of achieving this will be better if you hire an attorney to help negotiate.

A foreclosure is something we all hope to never experience. A short sale isn’t any better. If you find yourself facing the possibility of either of these, talking honestly with your lender may win you some other options. It’s certainly worth a try.

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