The last few years have been tough for millions of homeowners. The loss of jobs, decreased hours and incomes, and declining home values have been devastating to communities and families alike. The entire real estate market has taken a big hit, as have consumers’ credit ratings.
But the fundamentals of buying a home after a short sale or foreclosure remain the same. Borrowers must demonstrate the ability to pay with sufficient and stable income; the willingness to pay based on their credit histories; and the ability to provide a down payment with which to put some skin in the game. The question really is when you should buy again after losing your home to financial hardship—not if. The answer depends on the circumstances and severity of your situation.
There are consequences that borrowers who faced foreclosure will have to deal with before buying another home, and it will take time to heal the damage done by the foreclosure process. How long you need to wait to buy another home depends on how deep the damage was to your overall financial picture and how well you recovered afterwards.
In order to recover and buy again, you must focus diligently on improving your credit and saving money.
Here are five key variables on how foreclosure, short sale, or deed in lieu can impact your next home purchase:
1. Duration of delinquency is a factor. Foreclosure proceedings and short sale transactions can take quite a bit of time (depending on the state in which you live and the banks’ procedures), and homeowners in foreclosure or short sale are often unable to continue making monthly mortgage payments during the process. The duration of delinquency can do serious damage to credit, even before the final foreclosure judgment or short sale is reported.
2. Deficiency judgments can have lasting impacts. When there is a foreclosure or a short sale, there is often a large debt that is left unpaid that banks want to settle. In short sales, it’s the difference between what was owed and the amount for which they were able to sell the home. In a foreclosure, it’s a combination of attorney and court fees, plus all of the unpaid amounts due.
Often, consumers are on the hook for the difference of the loss the bank took on your property. When this is the case, a deficiency judgment is filed in the court and appears on your credit report as a negative debt owed and payable.
Under certain circumstances, and in some states, this deficiency balance can be waived. It’s important that if you are going through the foreclosure or short sale process you understand what will happen with any negative equity or unpaid amounts. This has a lasting negative impact on your credit and, thus, your ability to purchase a home in the future.
3. A lower credit score might mean a higher interest rate to borrow. Buying power is largely set by creditworthiness unless you are sitting on piles of cash. If you have damaged credit and a lower FICO score, you will likely be charged a higher rate to borrow money.
On a purchase as large as a home, high-interest, long-term debt can be very costly. It is worth taking the time you need to get your credit in order by making a good faith effort to pay all of your bills on time, clear any collections or judgments, and improve your credit score.
This may mean waiting a bit longer before you buy another home. In the long run, it can save tens of thousands of dollars in interest over time.
4. A higher down payment may be required. If you’ve had a housing-related credit issue previously, many banks and investors have guidelines in place that may require you to put more money down on your next home purchase. Some rules require down payments as high as 20 percent.
Again, this may mean you have to wait longer to buy again in order to save the additional cash required to qualify for a loan. The more money you put down up front, the less risky you appear to be.
5. A waiting period may apply. Since the crisis, many of the major investors and insurers of mortgages, like Fannie Mae, Freddie Mac, and FHA, have issued new rules on how long you must wait after foreclosure, short sale, or deed in lieu before you can buy again. This can be roughly five to seven years on a foreclosure and two to four years on a short sale or deed in lieu, depending on the loan type.
These rules tend to be much more favorable to consumers who were engaged in the process with their bank and who entered a foreclosure alternative like a short sale or deed in lieu as well as for those who can document extenuating circumstances related to their financial hardship. The waiting periods are much harsher on borrowers who took the process all the way through and completed the foreclosure.
Since the housing crisis, many lenders are looking at credit and underwriting processes through a brand new lens. Their views will continue to evolve as agencies like the Consumer Financial Protection Bureau (CFPB) and others write the critical policies that will govern mortgage lending and housing policy in the future.
It’s important to stay informed on how these new rules will impact home-buying options and the overall cost of ownership. The good news is that homeownership will be in reach again—it just may require a little more time and patience before you get back in.
Alanna McCargo is a housing and financial services executive and personal finance writer and advocate. She is a public speaker on hot topics in financial services and the housing market, and she writes a personal finance blog called “Matter of Money.” She is an active volunteer and serves on the board of directors for the Women in Housing & Finance Foundation, a non-profit dedicated to advancing financial literacy, housing policy issues, and education programs for women, children, and under-served communities. Follow Alanna on Twitter @myhomematters.