A mortgage shortfall occurs when a home is sold or repossessed for less than the amount that is owed in the mortgage. If a home drops significantly in value from the time it is purchased, for example, a homeowner may be forced to sell it for much less than is on the mortgage. The difference between what is received for the sale of the home, and what is still owed, is the mortgage shortfall. Individuals who take out indemnity insurance on their mortgage when they first get it will be able to receive these shortfall funds from the insurance company to pay back the bank; however, in most cases the insurance company will turn around and come after the homeowner for those funds again.
It really does not matter to the bank that holds the mortgage whether the house is repossessed or whether the homeowner sells the home independently; they simply want to collect what is owed on the mortgage. If a homeowner does not pay it, the bank will typically be motivated to take legal action against the borrower until they recover the funds. In some cases, costs from selling the home such as appraisal fees, real estate fees, and closing costs can even be added onto the mortgage shortfall, increasing debt even more.
As mentioned above, indemnity insurance can be used to pay the lender the difference in a mortgage shortfall. The insurance company will then request those funds, however, so it will virtually always be necessary to pay them. Some people are forced to declare bankruptcy if they can't pay the difference in a mortgage shortfall. Others attempt other avenues, such as trying to settle with the bank for a final payment, even if it is not for the full amount owed. Experts recommend that this type of agreement should always be in writing so the bank cannot continue to request payment after a settlement.
If a homeowner is forced to sell a home with a mortgage shortfall, it will remain on his or her credit report. This can make it more challenging to purchase a home in the future, or to get any other type of loan, from a personal loan to an auto loan. Homeowners are generally advised to take every step possible to avoid a mortgage shortfall, and if it is not possible to sell the home for the value of the mortgage, to take steps to resolve the debt as quickly as possible to minimize negative impacts on credit.
