Short Sale vs. Foreclosure: Best Way to Handle a Dying Home Loan
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UPDATED: Jun 12, 2012
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When a homeowner possesses an upside-down home loan, making monthly payments can become an excruciating task. Those who can’t afford their payment often forego other necessities in order to make ends meet. If they still can’t scrounge up an appropriate amount of money, they often face harassment from debt collectors and ridicule from news stories degrading “immoral” homeowners.
Even if the underwater homeowner is able to afford his or her monthly bill, the fact that their next door neighbor is paying half the price for an identical property can do a number on one’s morale.
Short Sale or Foreclosure?
But there are options—albeit not very desirable ones—for homeowners who feel trapped by an upside-down home loan. The first of those options is called a short sale, which occurs when a homeowner persuades their lender to allow the property to be sold at its current appraised value, which is oftentimes dramatically less than the securing home loan’s remaining balance. The second of those options is called foreclosure, which occurs when a homeowner defaults entirely on their home loan and allows their lender to repossess the property.
Of those two options, most would agree that short sales are the better route, but let’s take a closer look at each.
Benefits of a Short Sale
Contrary to popular belief, the benefits of a short sale revolve more around convenience than practical or monetary gain.
Here’s a quick run-down of why short sales are preferred by some:
- Control. Short sales enable home loan borrowers to control their sale, to control who purchases the house, and to control exactly when they’ll need to move out of the property.
- Rebound. While lenders are apprehensive to lend to participants of either short sales or foreclosures for some time, some lenders look more favorably on those who participate in a short sale versus those who opt for foreclosure. Consequently, some short sale participants find themselves in an easier position to rebound from their underwater asset and more quickly secure a new home loan for the purchase of a new property.
- Integrity. This is a benefit that’s often the focal point of the short sale versus foreclosure debate, but some homeowners have a real moral conviction of defaulting on a home loan. They believe they gave their word to repay the money, and thus feel obligated to do so. Short sales, while they don’t reclaim all of the money a borrower owes, do allow borrowers to return some of their outstanding balance to their lenders.
Benefits of Foreclosure
The word “benefit” and “foreclosure” are rarely found in the same sentence, but when compared to the alternative of a short sale, there are some clear benefits associated with foreclosure.
- Hassle. As strange as it may sound, opting for a foreclosure isn’t near the hassle of arranging a short sale. There are stacks of forms required just to appeal for a short sale. Additionally, home loan borrowers who are permitted to sell their house in a short sale are required to arrange the sale completely on their own. Foreclosure’s, on the other hand, occur without any extra work on behalf of the homeowner.
- Free Living (for a time). Many despise this point, but for others it could help out immensely. Lenders are simply unable to repossess houses at the rate in which foreclosures are coming in, so many families remain in their home until they’re forced out. In some cases, families are getting a few months of “free” living while others are reporting upwards of a year before they’re home is finally repossessed.
- Moving Incentives. In tandem with the previous benefit, banks are begging people to relinquish their soon-to-be foreclosed properties early so that further processing can commence. In order to do this, many lenders are hosting a “Cash for Keys” program, in which they pay homeowners to evict themselves early. Often times, that payment can be for thousands of dollars.
Many foreclosure opponents will say that credit scores are more heavily dinged by foreclosure. While this is true, the “heaviness” is extremely minute. The fact of the matter is, short sales and foreclosures near equally hurt credit scores.
So Which One’s for Me?
The answer to the long-standing short sale versus foreclosure debate isn’t that cut-and-dry. Instead, it’s up to the individual homeowner.
Do you want to maintain a moderately healthy relationship with your lender? Then a short sale may be the best route.
Do you not want to deal with your home loan any longer and just wait until the bank comes knocking at your door? Then foreclosure would be the best choice in that situation.
Homeowners should consult with attorneys, real estate agents, and lenders, and decide what the most profitable route for their own personal situation will be.