(Thanks to Kevin Budde of Bank of America for the following summary)
Consumers, lenders, real estate agents and regulators alike are wondering how mortgage-related actions such as modifications, short sales, foreclosures or bankruptcies will impact consumers’ credit profiles and, especially, their credit scores going forward. Several studies made by the credit bureaus provide some of those answers.
“Loan Modifications”: Consumers should proactively seek out Loan Modifications before they experience severe delinquency in their credit file. Late payments have a far greater impact on a credit score than Loan Modifications.
Types of Loan Modifications are: (1) “Forbearance”-Borrower is permitted to make substantially reduced or postpone making monthly payments (2)”Principal Forgiveness”-Lender forgives part of original principal or (3)”Recapitalization”-Loan terms extended and/or interest rates are reduced.
Short Sale, Foreclosure and Bankruptcy: In some cases, consumers face extreme financial situations (job loss or severe income restriction) and simply cannot afford to continue paying their mortgage. This can lead to a Short Sale, Foreclosure (including all variations, i.e. a deed-in-lieu of foreclosure) or Bankruptcy, and these events have significant impact on consumers’ credit scores.
Here is an average range of “reduction” in FICO scores per each event:
Loan Modification: -30 to -40 points
Short Sale: -115 to -125 points
Foreclosure: -130 to -140 points
Bankruptcy: -365 to -355 points
A derogatory event such as a Bankruptcy “significantly” reduces a consumers’ credit score. Raising the credit score is extremely challenging until the public record identifying the Bankruptcy is removed from credit file. This currently takes a minimum of seven years for Chapter 12 and Chapter 13 bankruptcy, and ten years for Chapter 7.
Bottom line is the difference between a consumer with no delinquencies and a consumer with a delinquency and defaults on primary accounts (mortgage, auto and credit card) represented an average of 243 points.