Credit Implications

A very common question is:

"How will a (foreclosure, short sale or deed in lieu) affect my credit?"


When making the difficult choice between a loan modification, short sale, foreclosure or deed in lieu of foreclosure it is important to have a complete picture of the tax, deficiency and credit implications.


For a better understanding of the tax implications, debt forgivingness and possible lender pursuit of their loss, please reference all three sections:


Tax Implications     Judgments / Collections     Credit


This is a two part answer because you have to look at how it will affect your short term credit score and your future credit worthiness.


    • Credit Score
    • Qualify For a New Loan (Government and Non-Gov.)
    • Future Credit Rules



Credit Score


Credit Score Point Loss and Rebound Chart


* GSE Penalty

** Credit Score Point Loss

**** Credit ‘rebound’




5 years

200 – 300

175 – 250


Deed in Lieu

4 years

200 - 300

175 – 250

same as foreclosure

Short Sale

2 years

200 – 300

150 – 175


Loan Modification

none yet





* GSE's moratorium ‘penalty’ = time you can get a new Fannie Mae or Freddie Mac loan.  This is dictated by underwriting guidelines from Fannie / Freddie since they back a majority of new loans and own over 50% of single family and 90% of multi-family loans.

** Credit Score Loss = FICO loss is taken from FICO news releases and media reports

      Acutal loss is reported from client reports of fico scores

*** Loan Modification FICO point loss will depend on if borrower missed payments or not.

**** Credit Rebound = How quickly a credit score will ‘rebound’ back up.  This depends on individual credit history, number of missed payments and how loss was reported on your credit.


There is no ‘set’ procedure for both loan modifications and short sales when it comes to how they are reported to the credit agencies.  SDHS has been notified by clients that after a short sale the lenders have reported the loan as ‘paid as agreed’ with no mention of short sale while others reported lender reported ‘paid for less than owed’ and ‘short sale’.


It is commonly reported by FICO and internet sites that a foreclosure, deed-in-lieu and a short sale all reduce your credit score by the same amount.  It is reported by clients we work with and other professionals in the business that the initial credit hit is smaller and the credit score return much quicker than expected for short sales and loan modifications.  All agree that a foreclosure is the worst hit to credit, has the slowest ‘rebound’ and carries the toughest additional penalties.


Qualify For a New Loan (Government and Non-Gov.)


When planning to purchase another home later the answer is a bit more complicated by the massive government involvement in the banking industry.


To understand how one will qualify for a new loan it helps to understand the background of who will offer that mortgage and who will be the end purchaser of that note.  First, mortgage loans are purchased from banks, mortgage companies, and other originators. Then, these loans are assembled into pools. This is done by government agencies, Government-sponsored enterprises (GSEs), and private entities. Mortgage-backed securities represent claims on the principal and payments on the loans in the pool, through a process known as securitization. These securities are usually sold as bonds, but financial innovation has created a variety of securities that derive their ultimate value from mortgage pools.



So in order for banks ‘lenders’ to be able to offer loans they have to be able to sell off their current loans and the entities that purchase those loans set the criteria for those loans to be made.  Fannie Mae and Freddie Mac purchase or back the majority of loans currently offered so they get to set borrower / loan ‘qualifications’ they are willing to later purchase or back.




Because Fannie Mae sets the qualifications for borrowers this is why it is so important to avoid foreclosure and the current 5 year penalty to qualify for a government backed loan.


Short Sale vs. Foreclosure Comparison from Fannie Mae Guidelines



Short Sale





Borrower’s responsibility

for lender’s loss


Set by law

Credit Damage



Credit Report Language

“Paid as agreed for less than full balance”


Time to new loan

2 years

5 years

Minimum down/FICO

No minimum

7 years = 10% / 680 score

2nd home/investment


7 years = NO


See a copy of the current guidelines:  Fannie Mae Short Sale vs. Foreclosure Guidelines



FHA Loan / Guidelines / Loan Limits

This program allows buyers who might otherwise not qualify for a home loan to obtain one because the risk is removed from the lender by FHA who insures the loan for the lender.  Uses debt ratio and stability of income for automated approvals.

The most popular FHA home loan program by far is the 203(b). This is your standard fixed rate loan for 1-4 family owner occupied houses and only requires a minimum of 3% from the borrower. This loan also permits 100% of their money needed to close to be a gift from a relative, non-profit organization, or government agency.


MSA Name

MSA County

















Non – Government Loans

A non-government loan is any loan that is not an FHA loan or backed by a GSE, State, or County governmental organization.  Most non-government loans now require a significant down payment and high FICO scores to qualify.


Future Credit Rules


As mentioned currently there is a five year ‘penalty’ on government backed loans for those that lose their property to foreclosure or have a bankruptcy.  There is only a two year ‘penalty’ for those that successfully perform a ‘short sale’ and no penalty (other than credit hit) for those that complete a loan modification.


Excerpt from: Fannie Mae Q and A Short Sales, Bankruptcy, DIL, Foreclosure

Q7. If a borrower has completed a short sale and was never delinquent on that mortgage and is now attempting to purchase a new primary residence, will Fannie Mae purchase the loan?

A.  If the borrower is purchasing a new property and the previous mortgage history complies with our excessive prior mortgage delinquency policy and does not have one or more 60-, 90-, 120-, or 150-day delinquencies reported within the 12 months prior to the credit report date, the loan is eligible for delivery to Fannie Mae, provided the lender or servicer who completed the short sale has not entered into any agreement that obligates the borrower to repay any amounts associated with the short sale, including a deficiency judgment.



The government sets up these rules to direct the behavior of borrowers to help curtail the flood of potential foreclosures headed to the market.  HUD is making it very clear that they do not want people to ‘walk away’ from their homes and are establishing policies through the IRS and GSE’s to affirm this.  Fannie Mae has indicated that an owner who performs a short sale without missing payments will be eligible for ‘delivery (of loan) to Fannie Mae’ thus having no penalty for completing the short sale as long as loan was not delinquent and other conditions are met.


If trends continue the government will relax new loan restrictions more on those that attempted short sales vs. allowing homes to go to foreclosure.  This trend is illustrated by the latest directives from the Treasury / Obama administration:


Remember during a loan modification or short sale the details of the any deficiency or later collection efforts will be negotiated with the lender and placed in the approval letter.  Also recently the federal government released plans for more widespread use of short sales and indicated in the release that the short sale would ‘release the lender’s claim’. 

From: How The Home Affordable Short Sale/DIL Program Works

“Treasury will also share the cost of paying junior lien holders to release their claims”

It remains to be seen how this will play out but clearly this administration would not allow finically distressed individuals to place themselves in more jeopardy by participating in a plan to help save the tax payers money.  We’ll see though very soon.



Note that Fannie Mae guidelines allow a seller to immediately apply for a new loan to buy another home if that seller kept the payments current and had no 60-day late pays or greater on record.


There is also no box to check on the Uniform Residential Loan Application asking if a borrower has completed a short sale… it only asks about bankruptcy or foreclosure.


Uniform Residential Loan Appication











































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