When facing foreclosure, the temptation is to let the process happen and then move on with your life. Unfortunately, getting your house repossessed can lead to a host of unwanted knock-on effects, many of which make things even worse. Far from moving on, you find yourself going backward.
Foreclosures aren’t rare, either. According to data, lenders made 151,153 foreclosure filings in 2021, a year when the housing market was booming.
In the following sections, we explore how foreclosure can negatively affect you so you can decide what is the best option for you.
Foreclosure Negatively Impacts Your Credit Score
Lenders foreclose on your property when you are unable to repay home loan installments on time.
From other creditors’ perspectives, a person with a home foreclosure in their credit history is less capable of taking on loans in the future. Therefore, the moment your foreclosure goes through, your credit rating can plummet. It is not uncommon for FICO scores to drop by 100 points or more following home repossession.
You can turn the situation around, but it takes a lot of work and patience. Three years of consistent, on-time payments should do the trick. But, for many people, a schedule like this is unrealistic. In the meantime, access to credit is low, and where it is available, interest rates are high
Foreclosure Can Affect Your Tax Bill
Home foreclosures can also have a significant impact on your tax bill. Once the foreclosure goes through and there is a change of title, it will trigger a tax assessment.
The reason for this comes down to the IRS’s definition of income. According to the tax collection agency, any forgiven debt is the same as income and is taxable as such. Therefore, when a mortgage lender writes off your debt and takes possession of your property during a foreclosure, there is a risk that your taxable income will rise.
Tax calculations apply once the lender sells the property. If the lender sells the property for more than the market price, they recoup the value of the mortgage and then pass on the remainder to you as a capital gain, after subtracting fees. In this situation, you pay capital gains tax on the money you made via house price appreciation. However, payment is easy because you have additional cash from the sale.
The same is not true if the value of your property falls. If the lender sells your home for less than the value of the mortgage, the IRS considers the forgiven debt as income. For instance, if your mortgage is $200,000 and the bank sold your property for $180,000, then they would technically be forgiving $20,000 of extra income, subject to tax.
In this case, the money you need to pay the tax bill doesn’t come from the sale of your home. Hence, you may have to dip into savings or borrow more money to pay for it, putting you under financial pressure.
Foreclosure May Reduce Your Chances Of Getting A Job
Many employers perform “background checks” on candidates before hiring them. They do this to reduce their risk. They don’t want to hire people with criminal records who could bring the company into disrepute.
Unfortunately, employers regularly pull credit reports as part of their due diligence processes. Credit reports are different from credit scores because they show details of your long-term financial history. Even if you improve your credit score after a foreclosure, it might not matter to a hiring manager who can see details of the repossession on your record.
Many employers look at long-term financial indicators as a measure of your character. Foreclosures, bankruptcies, and court judgments against you can all cause harm and reduce your chances of landing the job you want. When companies compare two identical candidates, they will take the one with a better credit report.
You may also find yourself being denied for certain types of jobs, For instance, people seeking jobs in finance, banking, and accountancy could find themselves automatically disqualified.
Foreclosure Could Be More Difficult To Find A Place To Live
Once a bank forecloses on your property, other creditors will not lend to you.
Most banks require you to wait at least three years after a foreclosure before granting you a mortgage. Non-payments remain on your credit report for up to seven years, impacting the interest rate you pay.
This makes finding a suitable place to live harder. As such, you may have to rent your accommodation. You might also have to move back in with family or friends if the situation becomes desperate and you can no longer get to work.
The waiting time to qualify for a new mortgage varies according to the mortgage product you take out. Here’s how it works:
- Fannie Mae/Freddie Mac: 7 years (or 3 years if you can prove extenuating circumstances)
- FHA-insured: 3 years
- VA-Guaranteed: 2 – 3 years
- Other loan types: 2 – 8 years
After the financial crisis, waiting periods after foreclosures got longer. Originally Fannie Mae/Freddie Mac mortgage holders only had to wait five years after a foreclosure before applying for a new mortgage. Now they must wait for seven.
As for extenuating circumstances, you’ll have to prove that something dreadful happened beyond your control. You must demonstrate a prolonged increase in your outgoings or reduction in your income resulting from events such as divorce, injury, or job loss to be considered for a new mortgage sooner.
Lastly, going through foreclosure is stressful. Having a bank take away your home and sell it at auction, forcing you to move out, is never a pleasant experience. What’s more, it usually comes during the worst parts of your life, such as loss of employment, relationship breakdown, or death in the family.
According to research, the negative impacts of foreclosure on mental health are considerable. Studies have found, for instance, that people going through foreclosure experience worsened mental and physical health, leading to poorer health status.
The Bottom Line
In summary, foreclosure is something that most people should avoid. If there are ways for you to pay your mortgage on time (such as taking on more hours at work or doing a second job), you should explore them.