What Is Negative Equity?

Negative equity is when the total borrowing that's secured against your home is greater than what it can be sold for. So for example if you have £150,000 left to pay on the mortgage, but your home's market value is now £120,000, you would have £30,000 of negative equity. 

Unfortunately you can end up in negative equity through no fault of your own - even if you have continually paid your monthly mortgage repayments on time each month. If you’re unsure about whether you’re in negative equity, you can find out by asking your lender how much you still owe on your mortgage. Alternatively you can check the balance that’s still left on your most recent statement. You'll then need to arrange for a local estate agent to come over and value your home. If the value of your property ends up being a figure that is less than what you still owe, then you're in negative equity.

Why do people find themselves in negative equity?

There are a few different reasons why you might find yourself in negative equity. However possibly the most common reason that negative equity occurs is because of falling house prices. House prices plummeting result in those with larger debts living in homes which are suddenly worth less that their remaining mortgage balances. 

Those who took out a bigger loan to buy their property will also be drawn into negative equity quicker if house prices fall. This is why since the credit crisis, banks have been so wary when it comes to lending. Previously people were able to borrow 100% of a property's value. Now the most people can borrow is 95%, and even then this is subject to stringent credit and affordability checks. 

Interest only mortgages could also see people fall into negative equity more easily. An interest only mortgage is where you only pay the interest off each month, but pay nothing off of the capital. This means that if you borrow £200,000, in however many years time you will still owe £200,000 and will pay it off as a lump sum. However the nature of this kind of mortgage type poses a greater risk of falling into negative equity if property values fall. 

Is being in negative equity a problem?

Most of us would of course prefer to be on the other side of the coin. However it's not really a huge issue unless you want to do either one of the following - sell up or remortgage your property. 

If you’re wanting to sell and are in negative equity, it will be your responsibility to pay the difference that exists, so if you're £30,000 in negative equity, you would have to find this by either borrowing from friends and family or covering it with anything you may have put into savings accounts over the years. If you don’t have the necessary funds you could look into borrowing the money. However taking out a loan will only add to any debts you may already have and you must be able to afford the repayments on time to prevent falling into financial difficulty. Only consider this option if you are absolutely desperate to move, otherwise accept that you might not be able to sell at that current point in time. 

Negative equity can also make it difficult to arrange a new mortgage deal. It's best that you try and speak to your current lender and try to re-negotiate a new deal if you're coming to the end of your current term, however if this isn't possible you will be placed onto the lender's standard variable rate (SVR). This could either be higher or lower than the rate of interest you paid as part of your last deal. If the new rate is lower, your repayments will decrease, however because SVR deals can change, they could go up in the future. This may result in your mortgage repayments becoming unaffordable. You must speak to your lender if this is the case, as they can look into possible solutions to try and manage your situation.

How can you get out of negative equity?

There are some things you can do and measures you can take if you're in negative equity.

As already mentioned, negative equity only really becomes a big problem if you want to sell your home. So if you can, stay put and ride the period of negative equity out instead. Generally speaking, over time the value of property in Britain trends upwards and it's likely that your negative equity will disappear over time on its own without you needing to do anything other than to continue paying your mortgage repayments on time each month. This will either be because you’ve reduced your mortgage balance to a figure that is now less than what your home is worth, or property prices will have risen.  

There are things that you can do to add value to your property, and which would reduce the deficit between what your home is worth and what you currently still owe on the mortgage. These don’t need to be expensive changes, but will help to keep your homes’ ‘micro’ value intact, even if falling property prices have impacted the ‘macro’ value. 
If you can afford to update features such as a tired looking bathroom or kitchen and make changes to your property that can add significant value, then do consider making these upgrades, especially if you think you would like to sell in the future and borrowing the shortfall isn’t an option. 

You can climb out of negative equity quicker if you overpay on your mortgage. The majority of lenders will allow you to pay 10% off of your mortgage balance as an overpayment per year if you’re still in the introductory, fixed, tracker or discount period. Keep in mind however that the 10% rule does not apply to all, so you must check with your lender beforehand. Fees for overpaying are usually somewhere between 1% and 5% of the amount overpaid depending on your mortgage, so the penalty will vary.

If you really need to move out of your home and borrowing the shortfall to sell just isn’t a viable option, you could look into renting out your home whilst you rent another property to live in. You will need to keep making your monthly mortgage repayments, however if your property would make a desirable rental property - good location, good number of bedrooms etc - you could find that the rental income covers your costs, however this will depend on the local market. The idea is that you rent out your property until you're no longer in negative equity and you’re able to then sell. You will have to speak with your lender to see if this is a possibility as your mortgage will need to change from residential to a buy to let mortgage, which may not always be doable.

Alternatively if you are unable to secure a buy to let mortage but can prove you need to rent your home because of reasons such as needing to move for work commitments or financial difficulties, your lender might agree to what’s known as a ‘consent-to-lease’. This is where your residential mortgage provider agrees to you letting your home out to paying tenants. You will still need to assess the costs carefully however, as they could still charge a one off fee and put up interest rates. You must make sure that you do speak to your lender if you want to let your property - don't just go ahead as you will be in breach of your mortgage agreement which will have consequences.

If you find yourself struggling to meet your mortgage repayments and are still in negative equity, one of your final options may be to sell your home. Before deciding to sell up, do speak to your lender and explain your difficulties and any suggestions you might have about how you think meeting your mortgage repayments could be made easier. Thanks to the guidelines laid out by the Financial Services Authority, your lender has to be open to listening to you, so it's worth discussing things through with them.

If your only option is to sell, you will still need to speak with your lender before agreeing to a sale. They may be willing to accept the amount you could get from the sale of your property as settlement on your mortgage, however this will only be if this results in a higher amount than if they were to repossess your home and sell at auction. If not, they may agree to the sale but arrange for you to pay them back the shortfall over a period of time. Note that selling for a price which will fail to clear your outstanding mortgage balance will break the terms of your mortgage agreement, so only consider this if you are in real financial difficulty. It will affect your credit rating for the next 6 years and you will also need to ensure that you have somewhere else to live if you do decide to go down this route.

Publish date: 28/08/2018

Publisher: New Home Finder

Url: https://www.newhomefinder.co.uk/new-home-info/finance-legal/what-is-negative-equity