What is Negative Equity and How Can I Avoid It?
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What is Negative Equity and How Can I Avoid It?

Since the financial crash of 2008 house prices have steadily increased. Despite the pandemic’s effect on the property market, people are still buying and selling homes. Many are still benefitting from the stamp duty holiday which was introduced in July 2020 by the government and is set to end on September 30th 2021.

What does negative equity mean?

Property is still considered an investment and part of a long-term financial future for many homeowners. However, no investment comes without its pitfalls. Like any investment, house prices can increase but they can also fall. If you own a home and property prices plunge, the value could be less than what you owe on your mortgage, which is negative equity.

Am I in negative equity?

When you first take out a mortgage to buy a property your equity will be the deposit you put down. Let’s say you put down a 10% deposit, your equity is 10% of the home’s value.

If you put down a 10% deposit on a home purchased for £250,000 your equity would be £25,000.

As time goes on, your equity can increase. As you pay your mortgage back more of the property will be yours. Also, if your property value increases, your outstanding mortgage will account for a smaller percentage of your home’s value.

So, to figure out if you’re in negative equity you take the current value of your home and takeaway the amount you owe on your mortgage (the original price you paid minus you deposit and mortgage repayments). If the final figure is below zero, you’re in negative equity.

Going back to our example. You’ve bought a home for £250,00 and put down a 10% deposit, £25,000. This means you have borrowed £225,000 from your mortgage lender.

After five years the value of your home has increased by 20%, to £300,000. You have also paid back £40,000 in that time, meaning your equity is +£90,000.

If, after five years, the value of your home decreases by 25% it would be worth £187,500. In this time you have still paid back £40,000, meaning you owe £185,000 on your mortgage. This means you would be in negative equity, -£2,500.  

What happens if you have negative equity?

You may be more at risk of negative equity if you are a recent homeowner, therefore having only paid the deposit thus far. Equally, if you bought with a 95% or 100% mortgage you are relying on your mortgage repayments and the potential for your home to increase in value.

You can also be at risk of negative equity if you purchased when house prices were high, over-paid on a home, bought in a struggling area, or used an interest-only loan.

Minor peaks and troughs are commonplace in the property market – it is normal for the value of a home to go in either direction by 2 or 3%. The issues arises when there has been a sustained economic downturn or if you want to sell.

Negative equity isn’t an ideal situation to be in, but there are solutions. If possible, it could be wise to hang on and continue paying your mortgage off monthly. This will help build up your equity. Similarly, if your mortgage lender allows, you could overpay on your mortgage to help bring the amount owed down quicker.

It’s even possible that over a period of time your value of your property may increase and potentially reverse the negative equity.

Selling house in negative equity

If you are in a position where you must sell but are in negative equity it can seem daunting. However, there are workarounds. Being open and honest with your mortgage lender is the best option. Some providers allow you to sell and repay the outstanding mortgage back over time using a bespoke payment plan.

You should also shop around and look at specialist lenders who offer negative equity mortgages. This essentially means transferring the debt to a new property. However, this can be financially tricky due to repayment charges and interest rates.

Need to sell but are in negative equity? SOLD.CO.UK can sell your home faster than any estate agent in the UK and you won’t have to pay a penny. We even cover your legal costs. Our property experts have dealt with all financial situations relating to property and will be able to offer you guidance throughout the process to ensure you’re satisfied and have a plan in place for your future. Call us on 0800 566 8490 to discuss your circumstances with one of your friendly team.

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