If unexpected financial circumstances or an adjusted interest rate leave you unable to keep up with your house payment, turning over your property title to your lender could help you avoid foreclosure. This process is known as a “deed-in-lieu of foreclosure” or “DIL.” Although a DIL agreement will prevent you from losing your home to foreclosure, it could have a severe impact on your credit rating for years to come.
Deed-in-Lieu Vs. Foreclosure
One common myth regarding DIL agreements and other foreclosure alternatives is that these arrangements have less of a negative impact on your credit scores than foreclosure. What makes a foreclosure so damaging to your credit is the fact that it serves as evidence of your loan default. A DIL reflects the same thing. Because defaulting on your mortgage makes you a very high risk for future lenders, your credit scores suffer.
The credit damage a DIL causes varies among homeowners. In general, however, you stand to lose roughly 150 points after a foreclosure or DIL. If your lender requires that you miss payments prior to approving a DIL -- and most do -- you will suffer additional credit damage with each mortgage payment that you skip.
Fortunately, you can negotiate with your lender to lessen the negative impact a DIL has on your credit scores. For example, if your lender reports the DIL as a paid settlement rather than a foreclosure, it will ultimately have less of an impact on your scores.
After a foreclosure, your lender attempts to sell your former home. If the property sells for less than the amount you owed, you're still responsible for the deficiency. Your lender can sue you for this deficiency, obtain a civil judgment and begin seizing your assets.
Like a foreclosure, a civil judgment has a considerable negative effect on your credit rating. A foreclosure doesn't give you room to negotiate. A DIL, however, does. If you can get your lender to agree not to pursue a deficiency after the DIL is complete, you can minimize any future credit damage that results from your unpaid mortgage.
Both foreclosures and DIL agreements remain on your credit record for seven years. After seven years, the Fair Credit Reporting Act stipulates that the entries are obsolete and the credit bureaus must remove them. After the foreclosure or DIL is removed from your credit score, it will no longer have any impact on your scores. Thus, if you've practiced responsible debt management and kept up with payments to your other creditors, you can expect to see an immediate increase in your credit scores as soon as the credit bureaus delete the negative item.
- Consumer Financial Protection Bureau: What Is a “Deed-in-Lieu of Foreclosure?”
- The Washington Post: What's Worse for Credit Score – Foreclosure, Short Sale or Deed-in-lieu?
- Linda Ferrari: The Mortgage Crisis and Your Credit Part Three: Deed in Lieu of Foreclosure
- CNN Money: You Lost Your House – But You Still Have to Pay
- Federal Trade Commission: The Fair Credit Reporting Act (Section 605/p.22)
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