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My Mortgage: I’m Current Now, but Not for Long

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Donna Moore’s husband earns a good income, and he can easily afford to pay their mortgage. But in a few months, when her husband retires, all that will change.

“(W)e will not be able to pay this mortgage,” a reader using the screen name “Donna Moore” wrote in response to a recent Credit.com story, “and the house will be too big for us to keep up. What is the right thing for us to do in this situation?”

By planning a response to the problem months before it hits, Moore and her husband are already doing the first thing right. And while there are many different types of financial advisors who can offer expertise, “Ultimately, of course, this is a decision only homeowners themselves can make,” says Gerri Detweiler, Credit.com’s consumer credit expert.

It sounds as though Moore and her husband are thinking seriously about selling their house and getting rid of their mortgage. (After leaving her comment, Moore did not respond to emails requesting more information.) One problem is that, like 10.7 million other Americans, the couple owes more on the mortgage than the home is worth.

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Which means that whatever the couple decides to do, they may be heading for a financial squeeze. If they sell the house now, they will be left to pay the remainder of the mortgage themselves, unless they can convince their lender to accept a short sale. But if they hold onto the home, they could watch their retirement savings get eaten away by large monthly mortgage payments. Meanwhile they have other factors to consider, including their rental options, and potential damage to their credit scores.

As Moore and her husband wrangle with their decision, here are some factors for them to consider:

• Short Sale vs. Foreclosure. In a short sale, the lender agrees to accept less than what is owed on the mortgage. Sometimes that remaining amount, called a deficiency, must still be repaid by the borrower, sometimes not. In a foreclosure, the homeowner simply stops making payments, and the lender sues to take possession of the house.

Both a short sale and a foreclosure will cause serious damage to the couples’ credit scores, as we covered here. And at least in a foreclosure, the couple could choose to continue living in the home as the case winds its way through the courts, which essentially means they could live rent-free for a few years. However, if the housing market in their area is rebounding faster than elsewhere, that could mean they would lose less money to a short sale than they might have a couple years ago.

Whatever Moore and her husband decide, they should remember that the reason why people buy rather than rent is to build equity. But as long as they owe more than their house is worth, their monthly mortgage payments aren’t building any equity.

“When will your home be back in the black and start building equity?” Detweiler wrote in a recent article. “Until it does, you are effectively renting. And how much will that cost in the meantime?”

• Rent vs. Own. Renting costs money too, obviously. Detweiler suggests that people in Moore’s position take a weekend to go apartment hunting and see what’s on the market. Decide what you need in a living space (amenities, number of bathrooms, etc.), and see how much such apartments cost in your area. Maybe Moore and her husband will find they can get what they need at a great cost savings to owning. Or maybe rents are comparable to what they’re paying now on their mortgage, in which case it may make more sense to stay in their present home and wait for the housing market to gradually improve.

As you do the comparison, be realistic, says Detweiler.

“When you look at the ‘own’ side of the equation, don’t forget to factor in periodic expenses such as maintenance,” she says.

• Beware of Taxes. Giving up a home can cause quite a shocking reversal of fortune when it comes to one’s tax bill. As homeowners, Moore and her husband benefit by deducting their interest payments from their taxable income, a huge subsidy by the federal government to incentivize home buying.

Meanwhile, if they lose their home to short sale or foreclosure, they could face a sizable tax bill. That’s because the IRS treats any cancelled debt as income, and taxes it accordingly. Moore and her family may still be able to avoid such a tax hit, Detweiler says, if they qualify for an exclusion under the Mortgage Debt Relief Forgiveness Act.

Unless Congress extends it, that law expires at the end of 2012, however. If Moore and her husband are thinking about taking this route, they should act quickly.

“For some, this looming deadline is motivating them to take action,” Detweiler says.

• Find Help. It sounds as though Moore and her family have a rather complicated cost-benefit analysis to do. Now may be a good time to contact a financial advisor. These professionals come in many different types, including bankruptcy or real estate attorneys, and fee-only financial planners. The right type of expert may depend on which route Moore and her husband are considering.

It can be challenging to get the financial advice you need to make the best decision you can,” says Detweiler. “But there are professionals who help clients walk through their options.”

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