Glitch hurts credit scores
WASHINGTON — Michael Son was weeks away from closing on a three-bedroom ranch house in New Jersey when his lender called with bad news.
Despite the advertising executive's 720 credit score and proven ability to make a 20 percent down payment, he couldn't secure the loan last year. Somewhere in the fine print of his credit history, the short sale of a house in 2010 was misidentified as a foreclosure.
Son withdrew his offer and reluctantly settled into yet another rental with his wife and daughters, ages 4 and 6.
“It was devastating because you have that home in sight and you spend money for appraisal, for inspection, for your lawyers — I spent about two grand during the home-buying process — and then the bank tells you no, we can't give you a commitment,” said Son, 39. “So it's like, what do I do? When can I buy a home?”
Son and millions of other Americans who sold homes for less than they owed during the housing crisis are victims of a computer glitch that causes automated underwriting systems to misread short sales as foreclosures.
The confusion arises because credit bureaus that provide consumers' data to prospective lenders have no specific code for short sales. Instead, they tend to be flagged as pre-foreclosures, charge-offs or “settled for less than full amount” — designations that are just as devastating to credit as the stigma of foreclosure.
As a result, underwater borrowers who managed to get bank approval for short sales suffer the same long-term consequences as those who walked away from their homes after defaulting for years.
The coding error “hangs over me all the time,” said Wendy Bana, 50, a private school principal in Orange County, Calif. Bana short-sold her underwater home three years ago because she had to relocate from Oregon for a job. Last year, she discovered that her short sale was miscoded as a foreclosure, dashing her dream of buying a cabin at Lake Arrowhead, Calif.
Months of calls and letters to her bank and the credit bureaus failed to set the record straight, even though Bana had paperwork proving the short sale.
“It's not at all logical,” she said. “That's how you know the system's broken.”
Lawmakers in Washington are looking for ways to fix the problem.
“Injustice is being perpetrated,” Florida Sen. Bill Nelson said in an interview. The Democratic senator's home state had the second-most short sales in the country last year, after California. But Nelson said inaccurate codes taint people's credit files nationwide. He has asked federal regulators to investigate.
“Folks are having their whole financial well-being affected,” Nelson said. “That's wrong.”
Once rare, short sales became increasingly popular in the years since the housing bust. In 2005, there were only 17,530 short sales in the United States, or less than 1 percent of all sales, according to RealtyTrac.
Last year, 10 percent of all home sales were short sales, totaling almost 455,000.
In order to qualify, short sellers proved a hardship such as job loss or relocation, divorce or disability. Lenders often told borrowers they needed to become delinquent for 90 days or more, even if they never missed a bill and had money to pay. But doing so wasn't required by law and further damaged their credit.
Many short sellers ultimately decided the painful procedure was a more honorable option than foreclosure because it allowed the bank to recoup some of its investment and avoid the costly process of eviction, rehab and resale.
“The bank's still making fair money and it's better for the economy,” Bana said. “And I don't not pay my bills. I had always had perfect credit. To me, that was a far lesser evil than just walking away.”