Many homeowners are facing painfully unprecedented tough economic times. The unemployment rate has been at or near double digits since 2009, and those lost jobs aren’t projected to come back any time soon. Higher medical, food, & energy costs, along with tax increases have created more unwanted expenses for homeowners. Property values have been dropping dramatically, in many cases putting the home value well below the mortgage amount, making selling the house nearly impossible. The combination of less income, greater expenses, and dropping home values has created a perfect storm for many homeowners, leading to record numbers of foreclosures as families are unable to pay their bills. After all, if you are in this situation, what are your options? Sadly, most distressed homeowners think their only options are bankruptcy or foreclosure. Are bankruptcies and foreclosures the best alternative for the homeowner?

Bankruptcy: Bankruptcy, in most cases, is the worst option for the homeowner. A bankruptcy will only delay the foreclosure process, not prevent it. Once the bankruptcy is performed, then the bank will continue with the foreclosure process. Thus the homeowner will end up with both a bankruptcy and foreclosure on the credit record for the next decade! Plus, the struggling homeowner may have to pay the bank deficiencies for the difference of the foreclosed price of your home and the mortgage balance.

For example, if you owed $150,000 on the house and the house sold at auction for only $100,000, the bank could sue you for the 50,000 difference between the note and the sale, known as a deficiency. If you have declared prior to the bankruptcy, then the bank will know that you will have to pay the loan as bankruptcy cannot be performed again, and are much more likely to sue for deficiencies.

Therefore, due to the credit damage, the eventual foreclosure, and the high probability of a deficiency lawsuit stemming thereafter, declaring bankruptcy to avoid foreclosure is generally a horrible option.

Foreclosure: Do nothing and let the bank take back the property. There are several downsides to having a foreclosure on a credit report. First, the credit score will take a drastic hit and drop as much as 200 points. But to make matters worse, it takes a long time to rebuild a credit score with a foreclosure on its record. This just doesn’t affect the homeowner regarding the house. Credit cards rates can increase as will insurance rates. Also, it will be difficult for homeowners with a foreclosure on their record to finance other items, such as a car. Second, as discussed in the bankruptcy section, the homeowner can be sued by the bank for deficiencies. Third, anytime a bank forgives a loan amount greater than $600, it must report this debt forgiveness to the IRS and send the homeowner a 1098 Tax form. This means that the debt forgiveness amount will be considered by the IRS as taxable income.

For example, if you owed $150,000 on the house and the house sold at auction for only $100,000, since you would not be paying the $50,000, the IRS would consider this absence of expense as ‘income’, and you would be taxed accordingly. Imagine losing your house, being unemployed, and having to pay taxes on $50,000. Not only is your credit in bad shape, but now the IRS is going after you for payments.

Therefore, due to the long term credit damage, the high probability of a deficiency lawsuit, and the Tax consequences, doing nothing and allowing the banks to foreclose is a terrible option.

What can a homeowner who owes more than the house is worth, can’t afford to fix the property, and is behind on payment do to avoid bank lawsuits, tax problems, and credit damage?

Many distressed sellers in this situation looking to avoid these negative consequences will work with an experienced real estate professional who can perform a short sale. A short sale is when the bank ‘shorts’ or discounts the original mortgage note for the real estate professional in exchange for a quick, cash sale. By discounting the note, the bank will create equity in an otherwise unattractive property and the investor will then be able to purchase, improve the property, and lease or resell. This short sale process takes a great deal of time and effort from the bank as they have to negotiate with other companies to get the discounted note approved.

A successfully negotiated short sale is a win for all three parties involved. The real estate professional will be able to create a profitable transaction. The bank will be able to write off the bad debt, accept a cash payment in return for the non-performing asset, and release their interest in the property. The homeowner is able to relieve themselves of the burden without having to face deficiency judgments or tax consequences. While the credit impact will be just a damaging as a foreclosure initially, the homeowner will be able to improve their credit much quicker. In fact, according to FHA guidelines, a homeowner who has had a short sale on their credit report is eligible for consideration for an FHA home loan in as little as 2 years, provided they have steady income and have a history of paying their debt since the short sale occurred.

Homeowners who are behind in payments, have a house in need of repairs, and owe more than the house is worth have better alternatives than declaring bankruptcy and having their homes foreclosed. The consequences of these two options can lead to lawsuits and IRS problems. Working with a real estate professional can alleviate a great deal of stress and pressure, eliminate lawsuits, and reduce your tax consequences.

When searching for a real estate professional, the key is to find experienced professionals that have handled several transactions of this nature. Short sales are tricky in nature, and you will want to use a real estate professional that has experience. Remember, not every Realtor understands the short sales process. More times than not, you will have success working with investors who are going to negotiate and purchase the property directly from the banks rather than Realtors who will just list the property. Consider the banks’ perspective. Would a bank rather spend 3 months time researching and negotiating for a price to give to a Realtor and ‘hope’ to sell or spend this time with an investor who is going to purchase? Finally, when selecting a real estate professional or company, you should always use the services of a company that is run by licensed professionals on its staff and is an accredited member of the Better Business Bureau. If the company you choose makes a mistake, you’re your home could wind up in foreclosure, so make sure you use the right group.

In conclusion, many distressed homeowners who are behind in payments, suffer from decreased income or increased expenses, and owe more on their properties than they are actually worth file for bankruptcy or allow the bank to foreclose. There are grave consequences to these actions that include lawsuits from the bank, tax consequences with the IRS, and credit damages. Having a short sale performed on your house by an experienced, qualified real estate professional can prevent many of these negative consequences from occurring and allow the homeowner to rebuild their credit quicker and move on with their life.

To speak to a professional about foreclosed homes in North Carolina, please feel free to give us a call at 704-535-1122.