What is Negative Equity and What Can You Do About It?

The amount of “equity” you have in your home refers to how much of your home you own versus how much you still owe on the mortgage. It’s easy to work out your current level of equity with a home equity calculator, or you can do the sums in your head to get an idea. What about “negative” equity? That’s another phrase that gets thrown around, often with stern faces and a bad-news vibe. It’s clearly something very serious that people should know about, but it seems not everyone does. Let’s take a closer look.

What is Negative Equity?

As the name suggests, it’s the opposite of holding equity in your home. It means the amount you still owe on the property is greater than the current value of your property. Normal home equity is where your repayments are outpacing the value of your home. When we invest in property, we hope the value of our home will increase, while the amount we owe will continue to fall.

In this way, our equity grows. If the value falls for whatever reason, however, then we are suddenly in possession of something of a financial albatross. Even if we sold the property at its current value, the amount we receive wouldn’t be enough to cover the balance of the mortgage debt. And then what?

What Causes Negative Equity?

The biggest factors behind negative equity are often beyond our control. The most common scenario is where people buy a house during a market peak, which is then followed by a big drop in values across the market, leaving a sea of negative equity.

Another way it happens is when mortgages are granted to people who only put down a very small deposit. Smaller deposits mean that the amount owed on the mortgage is already close to the value from the offset. If you’ve paid a 20 percent deposit on a house, then even if the value drops by 10 percent or even 15 percent, you should avoid falling into negative equity.

What Should You Do If You Find Yourself in Negative Equity?

The perfect solution to the problem of negative equity is to simply wait patiently for the market to recover and house values to rally. When they do, you can be taken out of negative equity without lifting a finger. Since the average Joe has zero say in where the housing market goes, however, that option isn’t open to us.

What homeowners can do is to try and sell for a price that matches the amount owed so at least they can cover the remaining debt at the time of sale. For some desirable properties with a lot of curb appeal, it can work. For those who can’t do that, another good option is to rent the property out and use the income to keep paying the mortgage while you wait out the market dip. Keeping the debt moving downward is always a good policy, regardless.

Depending on your lender, you might also have negative equity refinancing options that allow some restructuring of the mortgage that makes things easier for you. These choices are typically fairly limited, however, and shouldn’t be relied upon as the go-to option if and when one encounters a negative equity situation.

If you can’t rent the place out, then staying in the home and making plans to increase your payments and reversing the negative equity situations is another possibility. If you can boost your income with additional jobs and side hustles, you might be able to bring down the debt faster and thus restore proper equity. It could mean several hard months of work, but if you can keep your house and maintain your credit, it’s worth it.