Impact of mortgage "short sale" on your credit report

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Credit Advice

Topics addressed on May 14, 2008:

Impact of mortgage "short sale" on your credit report

Dear Max,

Some people are saying a "short sale" is better than a "foreclosure" on a credit report, but is that true? Don't both circumstances drop the credit score significantly?


Dear NTE,

“Short sale” has become a popular term in the wake of the mortgage meltdown. Generally, it means you sell your house for less than you owe on the mortgage. The term “short sale” does not actually appear in a credit report. So, the important concept to understand before you agree to your lender’s terms is how the mortgage loan will be closed and reported in your credit history.

When you pay less than originally agreed on any loan, the impact on your credit report almost always will be negative. It would be rare for a lender to report the mortgage as “paid” and forgive the remaining amount. In that instance, assuming all your payments had been made on time, there would be no negative impact on your credit scores.

In the vast majority of instances, however, a short sale is reported as “settled,” which means that you reached an agreement to repay only a portion of the total amount. The remainder is written off as a loss by the creditor.

In prior years, any remaining balance was considered income for which you would owe taxes. Because of the number of mortgage crises this year, the tax code was temporarily amended to waive the tax. You should verify that is still true for your 2008 taxes.

Settled accounts, like charged off accounts, are very negative, particularly because a mortgage is involved.

Foreclosure and “deed in lieu” of foreclosure are other options to close out a mortgage loan, both of which also would negatively impact credit scores.

It is difficult to hear from so many people facing these tough choices, all of which have a negative impact on your credit risk. If you must make a choice, please be sure to understand exactly how any remaining balance will be reported to the credit reporting companies and if the lender will sell the remaining debt to a collection agency.

Your goal is to end the pain, accept the consequences in terms of negative impact on your credit, and move on to start rebuilding your credit through positive account management.

Thanks for asking.

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