If I Default, Will It Hurt My Credit Score?

One of the major concerns clients have with pursuing bankruptcy, a short sale, a deed-in-lieu of foreclosure, or foreclosure is the impact it will have on their credit score. Defaulting on a loan is not an easy reality for anyone to face, but the overwhelming increase in unemployment rates, the slowing economy, and falling home values have created insurmountable hardships for many Americans, who are left with no other alternatives.

Creditors continue to prey on the consciences of honorable consumers who want to pay their debts but simply do not have the means to do so. Although alternatives such as bankruptcy and short sales provide consumers with an avenue to “start fresh” or the option to sell a home for less than what is owed on the loan without a deficiency, it is by no means an easy way out of existing financial obligations.

Such options come with consequences that should be carefully weighed against their benefits. Homeowners have been led to believe that because foreclosure is so devastating to their credit scores than almost anything else is better; however, this is simply a myth, and understanding how credit scores are tallied can help put some financial issues in perspective.

FICO (Fair Isaac Corporation) has identified that there is not much difference between short sales, deeds-in-lieu of foreclosure, or foreclosure on credit scores. When applying for a loan in the future, certain lenders may look more favorably upon a short sale than a foreclosure, but the credit scoring system sees all these defaults as equally bad. Based on the analysis of the information that lenders share with credit bureaus about various forms of mortgage default, they all bear approximately the same weight when determining future risk.

In essence, it is the number of late payments--not the type of default--that affects your credit report dramatically.