You can't afford the payments on your home. Your efforts to get your mortgage modified are going nowhere. You may even have tried to sell the home for less than what you owe, but the short sale fell through.
The cruel world of foreclosure.
Now you face some grim options. You can let the home slide into foreclosure, or you can try to prevent or at least delay the foreclosure with a bankruptcy filing. Here's what you need to know to make the right decision:
Foreclosure takes a while. The amount of time between your first missed payment and the sheriff arriving to throw you out varies considerably by state, lender and even market conditions, but foreclosure doesn't happen overnight.
Although a lender can start foreclosure proceedings after a single missed payment, most wait until three or more monthly payments have been skipped. How long the process takes after that varies widely; some Southern states give lenders the power to oust borrowers from their homes in a matter of weeks, while in other areas foreclosures are now dragging on for 12 months or more, said attorney Stephen Elias, the author of "The Foreclosure Survival Guide" (also available for free on self-help legal publisher Nolo's
In general, foreclosures move faster in states that don't require lenders to go to court to get the process started ("nonjudicial" foreclosures) than in states that do ("judicial" foreclosures). To see which applies in your state, visit Nolo's "How foreclosure works" page.
Bankruptcy slows but often doesn't halt the foreclosure process. As soon as you file for bankruptcy, creditors must stop collection efforts. Your mortgage lender can ask that the so-called automatic stay be lifted so it can proceed with foreclosure, but the amount of time you typically have before the foreclosure process recommences varies by the type of bankruptcy you file:
- A Chapter 13 repayment plan requires you to pay back at least some of your debts over five years.
- A Chapter 7 liquidation erases most of your consumer debt in a few months.
"With a Chapter 7, you usually get two months" of breathing room from the foreclosure process, Elias said. "With Chapter 13, it's usually six months."
That is, unless you can demonstrate you're able to pay back what you owe. In that case:
Chapter 13 can help you catch up. If your financial setback was temporary and you now have the money to make your mortgage payments and get caught up on the payments you missed, a Chapter 13 bankruptcy can save your home.
A Chapter 13 also can help you get rid of second and third mortgages, including home equity loans and lines of credit, if you no longer have the equity to secure those loans.
Unfortunately, few people are in a position to get caught up on their mortgages, Elias warns. Many who fall behind do so because their payments are too big or their income has dropped. They still can't afford their primary home loan payments, let alone pay back the arrears they owe, even if the extra payments are stretched out over five years.
Another problem with Chapter 13: It's expensive. Attorneys typically charge $3,000 and up to handle a repayment plan bankruptcy, which is about twice the going rate for the simpler Chapter 7 filing.
Weigh the costs and what filing buys you. Even if you can't save your home, you may want to consider Chapter 13 just to buy yourself more time, if you can afford to do so.
The longer foreclosure takes, the more time you have to stay in your home and save money. The cash you would have been applying to your mortgage can go to a savings account to help you make a security deposit on a rental, Elias said.
Video: Foreclosure filings surge
Elias strongly believes people should stay in their homes as long as they possibly can to strengthen their finances for life in a post-foreclosure world, when credit will be tough to get.
"I get really depressed when I heard people have left their house" before they have to, Elias said.
You may not feel comfortable staying in a house you can't pay for, of course. But if your goal is to buy more time, you can do the math to see if the extra months bankruptcy offers would allow you to save enough to make it worth the cost.
Chapter 7 may help -- or it may not. A Chapter 7 liquidation won't help you keep your home, since this type of bankruptcy erases unsecured debt, not the kind of debt that's secured by a house.
But it could allow you to erase consumer debt, such as credit card and medical bills, in addition to slowing the foreclosure process for a couple of months.
Chapter 7 bankruptcy isn't a good idea if:
- You have "nonexempt" property you want to keep. A second car or truck, vacation property, expensive jewelry and family heirlooms are among the things that can be seized and sold to pay creditors in a Chapter 7 filing.
- Your income is too high. If your family income exceeds the median for your area, your case might be rerouted to a Chapter 13 filing.
- You don't want to stick a co-debtor with a debt. If you co-signed for a personal loan, for example, your obligation might be erased, but your co-signer is still responsible for the debt.
For more details, read Nolo's "When Chapter 7 bankruptcy isn't the right choice" and LeavenLaw’s
Consider the credit implications. Bankruptcy is the worst thing you can do to your credit scores, but it has an upside. Bankruptcy can help you erase debts and get a fresh start, putting an end to the continuing damage to your credit reports from late payments.
Foreclosure, while somewhat less damaging to your credit scores, doesn't offer relief from other debts. You also may spend longer in mortgage lenders' penalty box than someone who has just a bankruptcy on his records.
Currently, mortgage buyer Fannie Mae makes those with foreclosures wait five years until they can get another home loan, with extra restrictions on borrowing until seven years have passed, said Matt Hackett, the senior underwriter for mortgage lender Equity Now. People with Chapter 7 bankruptcies must wait four years from the date of their discharge. Those with Chapter 13s must wait two years after their plans have been successfully completed (which typically means a seven-year total penalty period, including the five-year repayment period) or four years if their case was dismissed rather than completed.
For Federal Housing Administration loans, the penalty period is three years for foreclosures, two years for Chapter 7s and a year after a Chapter 13 discharge.
If you have both foreclosure and bankruptcy on your record, the longer of the two applicable penalty periods will apply.
Not all lenders follow these guidelines, of course, and restrictions may loosen or tighten over time, but in general you can expect an extended wait before you buy your next home.
(A short sale, by the way, may or may not damage your credit scores as much as a foreclosure but typically gets more-lenient treatment from mortgage lenders. Fannie Mae, for example, makes short sellers wait just two years before they can get a new home loan.)
Get advice early. If bankruptcy is a possibility, consult with an experienced bankruptcy attorney as early as possible, Elias advised. It's easy to make mistakes that could endanger your filing or your ability to get your debt erased.
Transferring property or money to other people could cause problems or even get your case thrown out. So could paying a debt to a family member when you owe money to other lenders.
Also, once you file, you're committed. If you later decide you made a mistake, you can't just back out; a judge must approve a dismissal. If the judge doesn't, you could lose property to the trustee.
Video: Foreclosure filings surge
Elias recommended seeking out attorneys who are members of theNational Association of Consumer Bankruptcy Attorneys. He also recommended the "Find a Lawyer" service on Nolo's site.
Although many attorneys offer free initial consultations, Elias warns that you may feel pressured to hire that attorney if you decide to go through with a bankruptcy filing.
The cruel world of foreclosure
"It's better to offer to pay for an hour of their time," Elias said. That way you can get a personalized assessment of your situation but still feel free to shop for another attorney if the chemistry isn't right.
Finally, keep in mind that you have plenty of company. Although this crisis may feel like the end of the world, it's not. You can rebuild both your finances and your credit. To start learning how, read "Bounce back fast after bankruptcy."
Liz Pulliam Weston is the Web's most-read personal-finance writer. She is the author of several books, most recently "Your Credit Score: Your Money & What's at Stake."
Weston's award-winning columns appear every Monday and Thursday, exclusively on MSN Money. She also answers reader questions on the
Your Money message board
and helps middle-class families cope at
Building a Brighter Future.