Mortgage woes hurt credit scores in different ways

Homeowners who are falling behind on a mortgage often worry just how much they might be damaging their credit score.

How much will a score be dinged if a payment is late a month or more? Or worse, what happens if the homeowner must resort to a short sale or winds up in foreclosure?

FICO, which produces the widely used credit score of the same name, says it has been getting many such questions from regulators, lenders and others who advise consumers with mortgage troubles.

So to answer those queries the company analyzed the effects of different mortgage scenarios on consumers with poor, good and excellent scores.

Lenders use credit scores to decide whether to extend credit and under what terms.

One of the big myths, FICO scores director Joanne Gaskin said, is that a short sale is better for a credit score than a foreclosure.

A short sale is a deal between the lender and homeowner, who finds a buyer to purchase the house for less than what's owed. In a foreclosure, the lender seizes the house and attempts to sell it to recoup its money.

In both cases, a lender gets back less than what's owed on the loan.

"Both are considered a default. There is little difference in impact," Gaskin said.

FICO scores range from 300 to 850; the higher the number, the better. In its analysis, FICO looked at three scores: 680, which is low; 720, good but not prime; and 780, something to brag about.

In a foreclosure or short sale, the low score would shed 85 to 105 points; the middle score would drop 130 to 150 points; and the high score would plunge 140 to 160 points. (When problems arise, the better your score, the harder you fall.)

In certain cases, a short sale could be less damaging than a foreclosure. Credit scores are derived from information that lenders and others send to credit reporting agencies. Some lenders report a short sale without including the amount of debt the borrower didn't repay.

When a balance shortfall isn't reported, a score would be 35 points higher in a short sale than a foreclosure, FICO said.

That's not much, but there are better reasons to consider a short sale, said John Ulzheimer, president of consumer education for SmartCredit.com.

With a short sale, you're more likely to maintain the property and its value, which is good for the neighborhood and the lender, said Ulzheimer. And lenders might look more kindly on you in the future.

For example, if you're current on your mortgage and undergo a short sale, you still could qualify for a mortgage insured by the Federal Housing Administration. But after a foreclosure, homeowners must wait three years to be eligible for an FHA-backed loan.

Another myth about credit scores is that being one month late on the mortgage payment won't affect a score much, Gaskin said.

Being 30 days behind can be almost as bad as 90 days.

FICO found that those with low scores lost 60 to 80 points whether they were 30 or 90 days late. Those with top scores lost 90 to 110 points after being late one month; and dropped an extra 20 points if they were tardy three months.

"That first 30 days late makes a significant impact and it takes a good deal of time to repair that credit," Gaskin said.

A homeowner with a low score, for instance, needs nine months to recover from a late mortgage payment. But a consumer with a high score will need three years to bounce back from a 30-day late payment, FICO said.

Indeed, the higher the FICO score, the more damage delinquencies and defaults cause and the longer it takes to return to that old score.

Vickie Gipson, director of foreclosure prevention at St. Ambrose Housing Aid Center in Baltimore, says she recommends that homeowners who are trying to recover from financial problems start rebuilding their score by paying bills on time.

"What you have to do is really look forward," she said. "When you face these kinds of devastating circumstances, yes, there is an impact, but you can get through it."