The principal and interest payment is often the largest monthly expense a homeowner faces. This is illustrated by the 28/36 rule used by the majority of home loan underwriters to establish loan limits for their borrowers. This formula allows for principal and interest payments to total 28 percent or less of the applicant's gross household income. When included with other debt, the total figure cannot exceed 36 percent of the gross annual income. 

As an example, a borrower with a $75,000 annual gross income could have a house payment as high as $1,625 with additional debt payments of another $625. These numbers make it easy to see how financial circumstances that cause a homeowner to miss one or two home payments could make it difficult to catch up. 

Families in this situation who are experiencing financial stress sometimes opt to stop making mortgage payments and allow the foreclosure to progress to completion, but doing this can have serious risks that should be considered.

Tax ramifications

While it can seem odd to the homeowner who has been foreclosed on, the Internal Revenue Service sees foreclosure as a taxable event. This can occur even when the mortgage lender forgives or cancels the mortgage debt. When this happens, the homeowner is required to claim the forgiven amount as income on their taxes for the year. There are a few instances when foreclosure will not create a taxable event, including bankruptcy and proven insolvency. 

Credit ramifications

While the damaged credit that accompanies a foreclosure can seem acceptable to someone trying to get out from under a mortgage payment they can no longer afford, the effects are long-lasting. In fact, homeowners should understand that a foreclosure will continue to limit their credit options for a full seven years.

This can make it impossible to get affordable new credit to replace a car or make even relatively small purchases like a refrigerator. If new credit is available, it is likely to be at a much higher interest rate. 

Housing ramifications

Homeowners who undergo a foreclosure may also experience difficulty when attempting to rent an apartment or home after the foreclosure has taken place. Property managers often run credit checks as part of the rental process and may require additional information from the applicant before they will consider approving the lease application. 

Buying a home is not impossible after a foreclosure, but the process can be much more difficult. If the foreclosure occurred due to a major life event, such as a death, divorce, medical situation, or job loss, lenders may look more favorably at an applicant with a past foreclosure. Like other new credit, a home mortgage after foreclosure is likely to be at a higher interest rate and can make the purchase of another home much more difficult to afford. 

Career ramifications 

Foreclosures can also have a very serious effect on future earning power. This is because some employers routinely run a credit check when hiring or promoting employees. If the job involves financial transactions, some types of professional certifications, or the need for security clearances, an applicant's credit history that includes a foreclosure can mean that they are passed over for the job or promotion they desire.

The Fair Credit Reporting Act does ensure that employers follow rules regarding their access to employee or applicant credit information. These rules include notifying the applicant or employee of their intention to obtain their credit report. 

If you are a financially stressed homeowner who has just gotten the notice of a possible foreclosure in the mail, understanding what your options are for stopping it, as well as the ramifications you will face if it completes, is critically important to your financial future. A frank, confidential discussion with a foreclosure attorney will offer you the information you need to make a good decision. Click here for more info on foreclosure.