What to do when you can’t afford to keep a home

Q: I owe $500,000 on my house, which is only worth $375,000. Because our loan was an adjustable rate loan, the payments keep going up. We can’t afford the house, and we were turned down for a loan modification. I have friends who are telling me to abandon the house, others who tell me wait out the foreclosure and some who have told me to short sell the house. What are my options, and what are the consequences?

A: You have a number of options. Loan modifications, as you have attempted, are usually the first step homeowners take when they can’t afford their home and would like to keep the house. There are differing statistics on how successful modifications have been, but most folks I speak to aren’t pleased by either the process or outcome.

The next option would be to stay in the house and find some way to afford the monthly payments. Perhaps you can reduce spending, work overtime or add a side job to make things work.

The third option of abandoning the house has the same consequence as a foreclosure, because abandoned homes are ultimately foreclosed on. The only differences between abandoning and foreclosure are how long you get to live in the house, and then dealing with the inevitable visit from either the lenders agent or third party purchaser.

That visit from either of those parties will be to discuss your move out and to inform you about the eviction process. Typically the foreclosure process will take from six to fifteen months after the first missed payment.

You will be notified when the lender files the Notice of Default, and again when they file the Notice of Trustee Sale. It’s very possible that you will be able to stay in the house for up to eighteen months.

The consequences of the foreclosure depend on your loans. If your loan or loans are purchase money loans, (taken at the time of purchase) lenders in California have no right to pursue the deficiency balance and must write off the balance owed.

This is stated clearly in California Civil Code of Procedure. 726a. If you refinanced at any point and took cash out for any reason, the protection of this code will not apply.

For those reasons a short sale might be the safer route to take. A foreclosure will have an extremely negative impact on your credit rating and most lenders have stated that they won’t consider granting another home loan for at least seven years.

The forth and final option is a short sale. Short sales are designed exactly for the scenario you have presented. The term short sale refers to the concept that your lender or lenders will need to accept a ‘short payoff’ (reduced payoff) in order to consummate a sale and the release of the lien.

While short sales can be time consuming and frustrating, when done correctly they offer the most comprehensive release of all loans, HOA liens, property taxes and liabilities for the selling homeowner. Once the sale has been completed, you can rest in the knowledge that all the entities involved have completely released you, and there will be no further collection attempts.

The short sale will have a negative effect on your credit rating, but not as severe as a foreclosure. Many lenders have already stated that they will consider short selling home owners for new loans in as little as two years.

Right now, you have the added benefit of the Mortgage Forgiveness Act. Previously any money that the lender wrote off would be taxable as regular income on your state and federal taxes.

In 2007, this act was passed and later adopted by California stating that any money forgiven in a short sale would not be taxable. The Mortgage Forgiveness Act is scheduled to expire on Dec. 31, 2012.

Your success at selling your home as a short sale will depend entirely on the real estate agent you choose. While it’s not rocket science, the process is cumbersome and it requires a comprehensive knowledge of the process, precise due diligence, continual follow up and superb communication skills.

Lee Schmidt is the broker/owner of Realty World South County and can be reached at 782-9933 or [email protected] Send your real estate questions to him and they could appear here. His column runs on the fourth Tuesday of the month.

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