Negative Equity Mortgages
Negative equity mortgages can cause tricky situations, therefore in this article, we will cover the topic of equity and, more specifically, negative equity. We’ll explain how it occurs, the problems associated with negative equity, how to sell/rent/move with negative equity, and how to avoid it in the first place.
We’ll also briefly discuss buy-to-let, guarantor, and Help to Buy loan schemes and how they relate to negative equity.
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What is Equity?
Equity is the difference between what your home is worth and how much you still owe: equity is how much you own. On the other hand, negative equity occurs when the value of your property is less than what you owe. Negative equity may also be referred to as upside-down or underwater.
In addition, negative equity is not an isolated incident, and house prices all over your area will be lowered.
How Negative Equity Mortgages Happen
Negative equity occurs because of a plummet in house prices. So, for example, while your home may have been worth £200,000 at the start of the mortgage deal, it may now only be worth £170,000.
Let’s say you also have £50,000 equity, but instead of paying £120,000, you have to pay £150,000. You owe £30,000 more than your home is worth, and that’s your negative equity.
During recessions, these plummets in house prices can be pretty significant. During the global financial crisis, the cost of houses dropped by about 20%, causing about 10% of people with mortgages to be in negative equity.
Interest-only mortgages have an even greater risk of this occurring, primarily because you’re not paying off your mortgage but only the interest on it. So, because you’re not gaining any equity, a drop in property prices could be even more costly.
How to Know if You’re in Negative Equity
If you’re concerned that you might be in negative equity, then your best course of action is to contact your lender, Inquire how much you owe, and arrange a valuation so that you can compare what you owe to your home’s value. You are in negative equity if your valuation is lower than the amount you owe.
The Risk of Negative Equity Mortgages
Negative equity makes everything more challenging: remortgaging becomes more complex, and selling your home in the time frame becomes tricky.
You’ll also find that lenders are reluctant to let people with negative equity change to a new mortgage even when their current ones end. Typically, they’ll have to switch to the lender’s standard variable rate (SVR).
Will Negative Equity Affect My Credit Score?
No, negative equity will not impact your credit score in any way. However, it can cause an impact if you fail to make your monthly payments or decide to move homes but aren’t able to pay the shortfall.
Buy-to-Let Properties
The problem with negative equity and buy-to-let properties is that most property owners purchase these properties with capital growth in mind and use interest-only loans; this means that:
- Investors lose out on one of the main benefits of buy-to-let properties when they have negative equity.
- You’re not gaining any equity, making interest-only loans unprofitable.
- It’ll be more challenging to remortgage and pay off the loan with negative equity.
- It’ll be harder to pay for the next purchase without the equity growth.
The Risks of Guarantor Mortgages
Getting a guarantor mortgage is already a significant stress because you’re putting someone else’s finances or assets on the line. And while they can help you get a 100% loan, this puts you at a higher risk of negative equity before any significant repayments have been made. There’s also the risk you put on your guarantors.
Consider that if you’re forced to sell while your property is in negative equity, your family member will be liable to meet the shortfall. If they’re unable, they may have to sell their own home.
Help to Buy Loan Schemes
Help to Buy loan schemes assist first-time buyers in getting properties with only a 5% deposit. The government lends you 20% of the property’s purchase price in exchange for a share of it. Now while you’re no longer able to apply for one, as the cut-off date was 31 October of this year, if you are currently using one to finance your mortgage, then you’re in luck.
Falling into negative equity with this loan puts you in a better position than a regular 95% mortgage. This is because the government also owns a percentage share of your property instead of a particular amount. So, if your property drops from market value, say, by 20% from £250,000 to £200,000, then what you owe will also change from £50,000 to £40,000.
Remortgaging to Deal With a Negative Equity Mortgage
Another option if you’re having difficulty making your loan payments is to get a remortgage, essentially replacing your existing mortgage with a new one. Although this may incur penalties if you have a fixed-rate mortgage, it is nevertheless the right decision if you can either lengthen your term or lower your interest rates.
You won’t, however, be able to improve your home’s value, and it may not be easy to get one to replace your existing mortgage in the first place.
In addition, when remortgaging, your new lender will have to do a thorough evaluation of your financial situation and will require the following:
- Your ID document,
- Utility bills,
- Three months of payslips,
- Three months of bank statements,
- Your P60 form,
- And anything else, as requested.
Selling Your Property
You could always sell your property, and negative equity won’t keep you from doing so. Do bear in mind, however, that mortgage lenders can only close your loan once you’ve paid off your outstanding mortgage balance. If you cannot sell it for enough to pay off your mortgage, you’ll need to accrue the rest in another way.
Renting Your Property
If your lender agrees and you can find elsewhere to stay, renting out your property is a great way to cope with negative equity. You can keep your existing mortgage paired with a likely Consent to Let fee: this is a fee charged by the lender giving you consent to letting your property to tenants.
Moving With a Negative Equity Mortgage
Even moving is more challenging with negative equity; the more negative equity you have, the harder it’ll get. Other variables that affect how easy it is to move are how up-to-date you are with mortgage payments, the value of the property you hope to move to and what deposit you can offer.
Avoiding Negative Equity
How do you keep yourself from a situation where you find yourself in negative equity? Well, this requires some foresight. Before taking out a mortgage, you should consider the current market conditions; a real estate professional can provide you with the information you need. Ideally, you want to purchase a property bound to increase in value over time.
In addition to this, you should consider the following to avoid negative equity:
- Should property prices take a lousy turn anyways and your property decreases in market value, it’ll put you in good stead to not fall behind on your payments as to accrue negative equity.
- It’s a good idea to put down a larger downpayment, as a small downpayment can harm your equity.
- It’s good practice, while making regular payments, to make some home improvements to increase your property’s value and work against negative equity. These could include adding home security, installing a patio and replacing large old appliances with new ones.
- Always remortgage when your mortgage deal expires so that you’re consistently paying the best interest rates available.
What to Do If You Can’t Make Your Repayments
If you’re unable to make your monthly payments, then you must make contact with your mortgage lender. They’ll discuss different options with you so that you can make your mortgage payments: they might even extend your repayment period.
And in the interim of this, make sure you pay whatever you can. Failure to do so could end up severely affecting your credit score and possibly, causing you to lose your home through repossession. And, even after your home is sold, you may still owe money as it was sold for less than the value of your loan due to negative equity.
FAQs
What happens if I am in negative equity?
Negative equity means that you may only be able to sell your home for much less than what you bought it for, making it harder to pay off your mortgage as there’ll still be a sum left to pay even after the money from the property sale.
How do you fix negative equity?
While there isn’t much you can do to change the fact that you have negative equity, you can reduce the effect it has on your finances. Avoiding interest-only loans, for instance, is a good idea. They can be pretty costly if the value of your property decreases because you’re only paying off the interest and not gaining equity.
What is an example of negative equity?
Let’s say that the value of your home is £300,000, but after a market crash and a drop in house prices: it’s now valued at £270,000. Currently, you have £200,00 equity in your property, but you still have to pay £100,000 instead of £70,000: you have a negative equity of £30,000.
Can you sell a house with negative equity?
Yes, you can sell a house with negative equity, but remember that you can only close your mortgage once you’ve paid off the entire balance.
Can you roll negative equity into a new mortgage?
Although it’s not common, some lenders will let you move your negative equity to a new mortgage.
Looking For a New Mortgage?
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