How Will Future Lenders View me After Foreclosure, Bankruptcy, or Short Sale?

Overcoming the circumstances that caused the previous financial issues requires knowing what to expect when reapplying for a mortgage in the future. It is important to understand the process and to be informed about the details of the process in order to become a homeowner again.

 

How long do I have to wait before I can get a mortgage? Most people will use an FHA mortgage because it is the more forgiving than a conventional mortgage, although conventional may allow someone who had an extreme hardship to be eligible 2 years after a short sale, but for the most part FHA is likely to be the route to owning again:

For FHA:

• Foreclosure – 3 years
• Deed-in-lieu of Foreclosure – 3 years
• Short Sale – 3 years, in most cases
• Chapter 7 Bankruptcy – 2 years
• Chapter 13 Bankruptcy – 1 year
• Credit Counseling Plan – 1 year

Coming out of a major financial setback can feel like an uphill climb, but it is not insurmountable. In fact,  there will be a point in time and beyond when nothing from that time frame of financial difficulty will even appear on the credit report. For most items it will expire off the credit report within 7 years, the worst case scenario is 10 years when it comes to a Chapter 7 bankruptcy.

 

Late payments, collections, charge-offs (debt written off and sent to collection), foreclosure, defaults, chapter 13 bankruptcy, etc. will all come off the credit report after 7 years.

 

Chapter 7 bankruptcy falls off the credit report after 10 years.

 

It is critical, after a serious derogatory credit event, to be PERFECT moving forward. If you go through a foreclosure, but then for the next 12 months following you have other derogatory items reported on your credit report, this can severely lessen your likelihood of being approved for a mortgage 3 years later. In the case of a bankruptcy, you get a second chance, but even one late payment or one collection after the bankruptcy could derail the possibility of getting approved for a new mortgage.

When there has been derogatory credit in the past, it will almost always have to be fully explained in a written letter.

Lenders must document their analysis as to whether the late payments were based on a:

• disregard for financial obligations
• an inability to manage debt
• factors beyond the control of the borrower (extenuating circumstances).

Extenuating Circumstances: nonrecurring events that are beyond the applicant’s control that result in a sudden, significant, and prolonged reduction in income or a catastrophic increase in financial obligations. These cannot be solely defined by the event itself; all circumstances must be taken into consideration.

 

What the underwriter is looking for is:

• WHY the derogatory event occurred
• WHY it was out of my control
• WHY it is unlikely to happen again

Have a mortgage or credit question you would like for me to cover on this blog? Shoot me an email so I can address it. If you want to apply for a mortgage in Arizona give me a call at 480-203-4641, the application process is easy, and it only takes 10 minutes for me to get the information to get you started on your way to home ownership.

Patrick Ritchie
Mortgage Finance Instructor

Ritchie School of Real Estate Finance

480-203-4641 Cell
Patrick@PatrickRitchie.com

NMLS# 276438 AZ#0913109
Click Here to go to Patrick's Mortgage Website

© Copyright 2012 Patrick Ritchie All Rights Reserved

Bankruptcy Versus Debt Settlement

Video: My Thoughts on Debt Settlement

Here is an email question I received the other day:

Patrick, I attended your class last year and have purchased your book. I have a client who has about $70,000 in credit card debt.  They are planning to file bankruptcy but don't want to lose their home or their retirement accounts.  I suggested they use a non-profit credit association company to work out a payment plan and pay their debt.  I don't want to lead them down the wrong path as I am not a financial advisor.  You implied in your book and class that bankruptcy might be the best route for their credit.

What is your suggestion?

There are many things they should consider, here is my short list off the top of my head:

• They likely can keep their retirement accounts in a bankruptcy; the statutes in most states give retirement accounts an exemption from creditors. The list of exemptions will be in your state codes/statutes, the legislative websites have great search features for locating the information. Or check with a bankruptcy attorney, Stephen Trezza is a knowledgeable bankruptcy attorney with useful information on his website: http://www.filebankruptcyinarizona.com/Chapter-7-Bankruptcy/What-Can-I-Keep-After-Filing-Chapter-7.shtml

• As long as they continue to make the payments they can most likely keep the house. This decision needs to be weighed carefully, do they really want to keep the house, can they afford it?

• People who go through bankruptcy will generally have better credit within 2 - 3 years, whereas people in credit counseling repayment programs can be in bad credit shape for 3 – 5 years.

• Through bankruptcy (Chapter 7) they may be able to discharge the entire $70,000 balance, depending on if they qualify based on their income

• A bankruptcy is a permanent public record, but falls off the credit report within 10 years, they could buy a house again within two years of a Chapter 7 bankruptcy

• Credit counseling is not part of the permanent public record and will fall off the credit report in 7 years generally (this is the way to go if they have political aspirations). There are circumstances where it makes sense to go through CCC instead of bankruptcy, generally for smaller amounts; $70,000 is not a small amount.

• A major consideration is tax consequence when it comes to debt settlement, if they owe $70,000 in credit card debt and settle for half, they are possibly going to be taxed for $35,000, depending on their tax bracket this could be a shock. An important thing for consumers to realize is that even if they do not qualify for a Chapter 7 discharge, going the Chapter 13 route may turn out better than settling through a non-profit. For example, let’s say the non-profit gets the creditors to settle for half, but the court may order that the creditors will receive ten cents on the dollar. Bankruptcy can be superior even from a settlement standpoint.

• With debt settlement through CCC the consumer does not lose any assets (other than the money they are paying), with a Chapter 7 bankruptcy the debtor would lose any non-exempt assets (personal property, stocks, savings, etc.). In a bankruptcy the non-exempt assets are auctioned off, I go to these auctions frequently. Many times the debtors will go to the auction and bid on their own stuff, which is allowed. Last year I purchased $2,300 worth of framed art for $80, the assets were from an art gallery that went under. The possibility of losing personal property is a major factor in making the decision to go the bankruptcy route, especially if the debtor has cherished keepsakes that would have to go to auction to pay creditors. It is a good idea to sit down with an experienced bankruptcy attorney for an exemption planning session to plan out the bankruptcy thoroughly.

If given the choice between a payment plan and discharging the debt it is almost always a better idea to discharge the debt. At the point of discharge the credit begins to heal, whereas with a repayment plan the damage continues until the account is settled and closed out. It is also important to realize that there are specific laws and procedures for bankruptcy, plus there is oversight. In the world of credit counseling there is no schooling, there is no licensing, there is no bar exam to ensure proficiency, it is a wide open wild west of sorts. I do believe there is a place for credit counseling, as long as the organization sticks to budgeting and interpreting the credit report. An excellent measure of whether a credit counseling agency is trustworthy is if they are HUD approved. I have worked with HUD approved counseling agencies for a number of years and have found NeighborWorks organizations to be the best all around.

As soon as credit counseling crosses into a repayment plan this is where I start to feel shivers up my spine. There is a thing called the sharing rule, which allows a debt settlement/credit counseling company to receive a commission/cut of the amount they can get the consumer to pay to the creditor. I feel this is an outrageous breach of fiduciary duty at the highest level. My second major issue is that many consumers drop out of the repayment program and file for bankruptcy ultimately any way.

This is just some food for thought, being in a position of choosing between bankruptcy and debt settlement is not an easy position to be in. Given the circumstances I think they should consult with a bankruptcy attorney to inquire about their eligibility. I feel strongly about this because I see many credit reports where if someone had just filed bankruptcy they would be fine today, but instead they dabbled with settlement and it prolonged the damage.

Have a mortgage or credit question you would like for me to cover on this blog? Shoot me an email so I can address it. If you want to apply for a mortgage in Arizona give me a call at 480-203-4641, the application process is easy, and it only takes 10 minutes for me to get the information to get you started on your way to home ownership.

Patrick Ritchie
Mortgage Finance Instructor

Ritchie School of Real Estate Finance

480-203-4641 Cell
Patrick@PatrickRitchie.com

NMLS# 276438 AZ#0913109
Click Here to go to Patrick's Mortgage Website

© Copyright 2012 Patrick Ritchie All Rights Reserved