Impact of Distress
The impact that foreclosure, bankruptcy, short-sale, or loan modification has on your score depends on your credit history and how the lender reports the event to the credit reporting agencies.
In general, if your score is high to begin with, each of these options will cause a deeper dip in your score than if your score started out on the low side. Borrowers with high FICO scores may see their score drop 100 points more.
It will also likely take you longer to claw your way back to your original score it if starts out high. However, time to rebuild credit is affected largely by your payment history and outstanding debt going forward. If you have excellent payment behavior (that is, you make all payments on time), and your available credit increases, your score will improve more quickly than if you continue to make some late payments and remain overextended.
Foreclosure, Bankruptcy, and Short-Sale
Bankruptcy, foreclosure, and short-sale often impact borrowers’ scores in a similar manner because borrowers usually resort to these options only when seriously delinquent. In addition, these events will be reported negatively on your credit report.
One matter that might make a difference however: If you do not have a deficiency after short-sale, it may be reported more favorably and have less of an impact on your score than if you do have a deficiency.
(Learn about deficiency after foreclosure.)
Loan Modifications and Forbearances
Most loan modifications are coded as CN or CO on credit reports. For now, FICO is not considering these codes as either negative or positive (but this could change in the future). However, what FICO will consider is your previous credit history and how the loan modification or forbearance is reported.
If, for example, your lender reports you as “paying under a partial payment agreement” this may negatively impact your score. Remember, your score predicts how likely you will default on future loan obligations. So if you aren’t paying your mortgage as originally agreed, this will likely lower your score.
(To learn about government programs facilitating loan modifications, such as HAMP, contact us directly)
What the Statistics Say
According to FICO statistics, on average, a bankruptcy is slightly worse for your credit than any of the other options discussed above.
When it comes to foreclosure versus a short-sale, according to FICO, homeowners who go through foreclosure tend to take longer to rebuild their credit. This may be attributed to the fact that for many homeowners, foreclosure is triggered by a traumatic life event such as divorce, job loss, or a medical problem – conditions that are likely to continue to cause financial stress and struggle after the foreclosure.
With the average short-sale, the former-homeowner is more likely to be in a position to stay current on accounts and decrease credit card debt. In fact, many people who go through short-sale see improvement to their FICO scores in just two years.
Keep in mind, however, that these statistics reflect the average situation. Your situation may be different. For example, if a job loss is what precipitates your short-sale, and after the sale you remain unemployed, you will likely have trouble improving your financial situation and your score. On the flip side, if you lose your home through foreclosure but don’t have any other delinquent accounts and your debt to available credit ratio is excellent afterwards, you may see an uptick to your score sooner.