The term “underwater” has become about as commonplace as “purchase agreement” in real estate lingo. We hear scary statistics like one in four homeowners in the U.S. is underwater with their mortgage. But how scared should we be?
Let’s look at the facts:
At this time last year, the number of underwater homeowners seemed to be declining. Recently, we got word that the trend is reversing. Fourth-quarter data from CoreLogic showed that about 23% of homeowners with a mortgage are underwater, near an all-time high. This equals $750 billion in negative equity.
Another 2.4 million homeowners have less than 5% equity in their homes, according to CoreLogic. If home prices drop again, these homeowners also could end up with negative equity. (Check out more details from the CoreLogic report here.)
Now let’s look at the big picture:
- Negative equity holds a homeowner prisoner to his home. No one likes the feeling of owing more on an asset than it’s worth. However, contrary to what most people think, owners who’ve experienced a 25% or more decrease in value and who can afford to keep paying their mortgage might be better off staying and waiting for prices to stabilize.
- Some underwater homeowners in this situation may be able to refinance into a lower interest rate through a government program.
- Some – not all – of these homeowners may choose to default to get out from under this debt.
- Most banks would rather do a loan modification or short sale than deal with the costs of a foreclosure.
What do I see happening as a result?
I think we’re going to see a lot more “work outs” and loan modifications from the banks this year – especially if home prices drop.
Sales will likely slow rather than gain momentum because again: Negative equity holds a homeowner prisoner to his home. If a significant portion of the market is staying put, then it will affect sales. But with all the inventory, this could have a positive impact on prices.
We’re likely to see a new breed of homeowner who’s looking to put 20% down regardless of what the banks and regulators say. This homeowner has learned a lot from observing the market these past few years and is determined not to repeat these mistakes. This homeowner wants to stay in his home – not be imprisoned by it.
Market stability begins with the homeowner. As we regain a population of buyers that begin their ownership with more financial stability and more equity, we’ll see the benefits play out in the form of an all-around more stable housing market.
When you read past the headline, you see that “underwater” doesn’t necessarily mean drowning.