Many people purchase their homes thinking that they would be staying in it for a long long time, but then unpredictable events happen wherein they are forced to move. Job transfer, divorce, death, illness, financial difficulties, these are just some of the reasons of homeowners for moving. They will have to put their house on the market when they move, which is not as easy to do now as is was before because of housing prices falling. Housing prices have been going down in some regions, over the past year.
It's harder to move now because the prices are going down and the profit is not sufficient for you to settle the outstanding loan as well as the closing costs. Most homeowners feel they have no choice but to either walk away from the mortgage, or let the banks foreclose on their property, or bankruptcy. All of these options are have a consequence and it will take a long time for your credit rating to be restored. Depending on your outstanding mortgage, the best alternative that has a significantly lower negative impact on your credit would be a short sale. What is a short sale? A short sale is when the lender forgives a portion of your mortgage and accepts a lesser amount than your loan balance. Typically, banks or lenders would not want to do that, but the foreclosure is often a long and expensive process.
Banks are under strict regulations and if a certain percentage of their outstanding loans are considered bad debt, they can be fined and sanctioned. So, banks are actually eager to get rid of the property, so long as it does not hurt them more if they do a short sale. In order for the lender to approve the short sale, the borrower must be experiencing genuine financial hardship, and you will have to prove your hardship by providing documents like financial statements, stocks, bonds, tax returns, medical bills, pay stubs, divorce decree, etc, as well as a "Hardship Letter" from the borrower which has a detailed explanation on the why they can no longer pay the mortgage. You will also have to put your house on the market, and once the property is sold, submit a copy of the comparative market analysis, a copy of the purchase agreement, and a net sheet.
Your agent will furnish these documents for you. The forgiven debt is taxable income, and will be reported to the IRS.
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