Short sales versus bankruptcy

A quick primer on the rules concerning short sales as opposed to filing personal bankruptcy:

Homeowners with underwater houses are tempted to look first at a short sale as a way out of their predicament. There are at least three drawbacks to this approach.

1. Short sales can still leave you with a debt that the bank or mortgage company wants to collect. What? The paperwork to complete the short sale essentially allows the lender to release its security interest in the property, but it does not necessarily absolve you of the debt. Are you prepared to read all the fine print and figure out if the bank still has a right to collect or not?

2. Short sales can sometimes trigger taxable income. If the residence is your primary home, you may be able to avoid this by relying on the federal Debt Relief Act of 2007 (which, contrary to its name, is in effect until December, 2012). But if you own a “two decker,” “three decker,” or any type of property that is not unambiguously a single family residence, watch out!

3. A short sale does not resolve any other financial issue you may have. It just allows a new person to take title to the home.

A bankruptcy filing, on the other hand, definitively discharges the your debt to the mortgage lender, avoids adverse tax consequences even for property that is partially rented, and often helps with other problems, like credit cards, as well. Just three reasons why for many homeowners a bankruptcy filing might be a smarter move than a short sale. And here’s another — with bankruptcy, there is no need to expend effort finding buyers and dealing with brokers; you can get out of the home with your peace of mind intact.


By Doug Beaton

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