Millions set to fall into negative equity

Two million mortgage borrowers will fall into negative equity this year, according to the FSA. Don't panic if you're one of them...

This month, the Financial Services Authority estimated that if property prices fall by 30% this year, from their peak in 2007 - which is pretty likely seeing as we've already seen a fall of 20% since then - then over two million residential mortgage holders and 500,000 buy-to-let borrowers will be in negative equity by December.

Crikey!

This means all these people would owe more to their mortgage lender than their home would be worth -- and if they were to sell up, they would face a shortfall in order to repay their debt.

The fact is, this is not just a prediction. Many people are already in negative equity and, with prices expected to fall further, you could be next.

Who is at risk?

Those most at risk are borrowers who bought at the peak of the market, for example the end of 2007.

It's likely that your property's value has decreased since purchase. But your chance of falling into negative equity depends hugely on the deposit you put down when you took out your mortgage - and how much your debt you have managed to pay off since then.

If you put down a 50% deposit, for example, then prices would have to fall 50% before you would be in danger of negative equity. But if you borrowed 80% of the property's value or more, you could already owe more than your property is currently worth. This is especially true if you took out an interest-only mortgage, and therefore have not been gradually chipping away at your debt every month.

The other group of people at risk of negative equity are those who bought their home years ago, and may have seen their property rise in value since they initially purchased it, but who remortgaged to withdraw equity in their home.

Say you bought your property for £50,000 10 years ago and it had increased to £80,000 by 2007. If you then remortgaged up to £75,000 - perhaps to consolidate debts or help out your children with their own deposit - you could now find yourself at risk of negative equity.

An easy way to figure out whether you're in negative equity is to ask a local estate agent to value your home for free, and then call up your mortgage lender and find out how much you currently owe. Bear in mind, however, that any valuation you get is only an estimate. You'll only know the true value of your home when you sell it.

What's so bad about negative equity?

Being in negative equity is not the end of the world. But there are reasons to be concerned.

Firstly it will make it very hard indeed to remortgage when you come to the end of your existing rate. So if you are on a two-year fixed rate that is due to end this summer, for example, you might find that there is simply nowhere for you to go.

This is because lenders do not want to lend to borrowers in negative equity. So you will be forced onto your lender's standard variable rate, which could be low or could be high -- it depends who you are with.

If you are lucky you might be with a lender that offers its existing customers in negative equity a choice of other mortgages in addition to its SVR --Yorkshire Building Society for example. Then at least you have a bit of a choice. But don't expect a low rate.

If you want to move house you face even greater problems. Not only will you have no equity in your current home to use as a deposit on your new property, you will also face a shortfall when you sell your existing place.

So it's really only going to be possible to move if you are planning to buy a significantly cheaper property than the one you own, or if you have a large amount of savings to cover the shortfall and some more to put down as a deposit on the next place.

In other words, it's a struggle.

Any good news?

If you do not want to move house and you can comfortably afford your mortgage repayments, then negative equity is not that much of a problem -- believe it or not.

If you are on a term deal, such as a lifetime tracker or SVR, or if you are on a long-term fixed rate and your mortgage payments are affordable, you don't really have too much to worry about -- although you should factor in future rate rises if your pay rate is variable.

After all, house prices cannot keep crashing forever. At some point they will stabilise and, in my opinion, start to rise again.

In the meantime, as long as you have a repayment mortgage, you are steadily reducing your debt, paying it off bit by bit. Eventually, this will help to get you out of negative equity.

Pay it down

If you are still not convinced that all is rosy, then you can be proactive.

Negative equity is simply a situation where your property's value is less than your mortgage debt. So if you reduce your mortgage to less than your property's value, you are back in a position of equity.

And you can try to do this by increasing the rate at which you pay off your mortgage.

Of course, it's not easy and you can only overpay if it's affordable to do so, but even making small extra monthly payments could make a big difference. Plus, if your mortgage payments have reduced in the last six months, you could already have the cash to pay a bit more.

This way, you may be able to keep pace with any further price falls.

For the record, interest-only borrowers can also overpay (if their lender allows it). This is a really good idea as you can reduce your debt and therefore the interest you are being charged.

Another strategy is to get out of negative equity is to make home improvements which add value to your home, thereby increasing the equity you own. But bear in mind it can be difficult to ensure you add more value than the work costs - and you'll need the money upfront to pay for it.

The key thing to bear in mind is that, if you can afford to pay your mortgage and you don't want to move, negative equity is not something you should lie awake at night worrying about. It's only if your circumstances or priorities change that it could become a problem - and who knows? By that time, the situation in the housing market may have improved. Fingers crossed...

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