Understanding Loss Severity: Impact on Foreclosures & Short Sales

Loss severity is the actual realized amount of loss of a property from the foreclosure and short sale. This number is typically taken a step further, and a loss severity rate or percentage is calculated. This information can be vital for mortgage brokers and consumers attempting to negotiate a depreciated mortgage. For mortgage brokers, a high loss severity rate can be used to negotiate preforeclosure short sales. For consumers, interest rates and principle due may be negotiated to a lower rate if the loss percentage is higher.

Loss Severity Calculation

Step 1

Determine the total amount owed on the home and any associated costs with the foreclosure such as unpaid interest, judgment fees and lawyer's fees. For example, if you still owe $250,000 for your home, after foreclosure this would increase to $275,000.

Step 2

Subtract the estimated amount the bank would obtain from selling the house in your current market. For example, if the current market value of your home is estimated at $100,000, the amount of loss the bank suffers is $175,000.

Step 3

Next, calculate the loss severity percentage by dividing the amount suffered by the initial costs. In this case, $175,000/$275,000 for a total percentage of 64 percent.