Avoid a 'short sale' if you are thinking of filing bankruptcy

Bankruptcy and short sales

What is a short sale? A short sale is when a lender allows a person to sell their house for a quantity that is not large enough to pay off the mortgage owed. Lenders wanting to avoid the foreclosure process, for example, will agree to a short sale and a foreclosure will thus be prevented. When people are experiencing financial problems, it is common for them to consider selling their house using this method to get out of a taxing mortgage. Unfortunately, a short sale leads to obvious complications when bankruptcy is involved.

The problems associated with proceeding with a short sale before filing bankruptcy are outlined in a Bankruptcy Law Network post on bankruptcy and short sales. Please refer to this blog post for a detailed run-down of this topic. For our purposes, we will focus on a couple main reasons why it is not wise to proceed with a short sale if a bankruptcy is inevitable in your case.

First, keep in mind that a short sale can be useful if the mortgage is the main (possibly the only) source of your financial problems. If this is the case, then sure, a short sale may be a good idea. However, if you face multiple financial problems and bankruptcy is inevitable, a short sale is often unnecessary and a bad idea.

Think about it like this: when you file bankruptcy, you are likely to be relieved of your mortgage debt anyway. Also, as the Bankruptcy Law Network post mentions, a short sale can be worse for your credit score than can a bankruptcy; a sale will inevitably be reported to your credit report since you failed to pay the entire balance on the mortgage.

Another thing to think about is whether your mortgage is considered “underwater.” If you have an underwater mortgage, meaning you owe more on the house than it is even worth, then not all of your mortgage debt will be erased; you may still be responsible for the remaining debt on the house even after the short sale (known as the deficiency).

The above are just some of the reasons why it is not necessarily the best idea to do a short sale if you are considering bankruptcy. Because the topic of short sales and bankruptcy is complicated, it is also obviously advisable that you consult with a bankruptcy attorney if you are considering either.

Now, there may be cases in which a bankruptcy and a short sale can both be done, but as the Bankruptcy Law Network reports, the best way to do this is to do a short sale after bankruptcy has been filed. A short sale can be feasible after the bankruptcy case has ended, but again, it can be a complicated matter and it is recommended that you consult with your bankruptcy attorney before moving forward.