Home Sweet Home: Protecting Your Credit and Your Financial Future in a Mortgage Meltdown

Home Sweet Home: Protecting Your Credit and Your Financial Future in a Mortgage Meltdown 

by Jeffrey Malkasian

The mortgage crisis that our country is experiencing has hit California harder than other areas. Many honest, hardworking members in our communities are trapped with crippling mortgage payments on homes that are worth less than what they owe on them.

But foreclosure is not the only - or even the best - available option. Consider a short sale instead. Though not exactly a positive option, its negative impact on your financial stability may be far less than what a foreclosure will do for your credit future. Before you settle on the idea of foreclosure, let's briefly compare the two.

Losing your home to foreclosure due to inability to keep up with your monthly mortgage payments is one of life's most unpleasant experiences.

It is also an event that keeps on affecting you long after your home is gone - by devastating your credit score.

Regrettably, most people cannot be 100 percent sure they will remain safe from foreclosure because they can't foresee the future. Unexpected occurrences such as serious illness, a major accident, divorce or job loss can happen to anyone. It's a good idea to understand the available alternatives should the worst occur.

Simply put, the inevitable result of a foreclosure is the lender taking back your house. Not only will you lose your home, but the lender can get a judgment against you for the arrearages you owe on it plus his or her costs for the foreclosure action. And if that isn't enough, your credit report will be in terminal condition for many years to come, worsening an already bad financial situation and making it very difficult to obtain any other kind of credit. There really is no upside to foreclosure. It should be avoided at all costs.

A short sale is a situation where you work with your lender to sell your home for less than the value of the loan. In these cases, the lender forgives the balance of the loan. If you have a $300,000 loan, for example, but can only sell the home for $225,000, your lender would write off the $75,000 difference.

A short sale is a popular option for homeowners mired down with financial problems. The biggest problem you will face is getting your lender to agree to a short sale. Experts advise pursuing this option the minute you realize that you are falling behind in your payments and most likely won't be able to catch up. The longer you wait and the greater the amount you are in arrears, the less likely your lender will ever be willing to discuss a short sale.

While a short sale is still an unfortunate situation, it is much less damaging - for you and your bank - than a foreclosure.

Though it will have a negative effect on your credit score - frequently lowering it by as much as 200 points - it is something that can be repaired more quickly than the black mark of a foreclosure, especially if you manage to retain one or two credit cards and keep them current.

There are many advantages to a short sale, including:

• avoiding the long-lasting damage of having a foreclosure on your credit report;
• receiving forgiveness on an unrealistic amount of debt - without declaring bankruptcy;
• there are no tax implications for the forgiven debt (this is a recent development, so take advantage of it!);
• reducing the stress on your family from struggling against a massive monthly mortgage payment; and
• a second chance - the opportunity to start over and rebuild your life.

But why would your lender agree to write off such a large sum of money? Banks are in the business of lending money - not managing property or selling real estate. In the long run, selling the home at a loss is much more cost effective for the bank than foreclosing on the property.

And prior to the Mortgage Forgiveness Debt Relief Act passed at the end of 2007, the IRS treated the amount of debt a homeowner was forgiven in a short sale as income. As a result, people already in a bad situation were also horrifically penalized on their tax returns. Recognizing the unfairness of this situation, Congress passed legislation amending this area of the tax code. Up to $2 million can be forgiven in this way without tax implications.

Qualifying for a Short Sale

To qualify for a short sale, most lenders will require that the homeowner be at least one month behind on the mortgage payment; the home must be listed for sale; and a qualified buyer must be available. You may also be eligible for a short sale if your income has been significantly reduced since you received your home loan and you have little or no savings.

Above all else: Get Professional Advice

The single biggest reason a short sale succeeds is a qualified real estate agent. If you are considering a short sale, you will need the support and advice of a qualified accountant and a real estate agent - one with lots of short sale experience who will help broker a deal with your lender and negotiate the details of a short sale.

If you find you are struggling to make your monthly mortgage payments, don't hesitate to get some advice. There may be other opportunities available to help you. An experienced, professional accounting and bookkeeping firm will look at your financial situation as a whole, and will be able to provide reliable advice that will save you money and improve your tax position.

You work hard for your money. Don't allow a shaky economic situation to worsen. Get the help you need - and deserve - to save that home sweet home.

Jeffrey Malkasian is the founder of Malkasian Accountancy in Sacramento, a family-owned business since 1979 specializing in tax preparation and bookkeeping services.

• volume 26 issue 6