August 6, 2010

Seven Options If Your Mortgage is Underwater

According to research from Corelogic 24% of homes with mortgages had negative equity, or were under water, at the end of the first quarter of this year.  There are quite a few million households in this unfortunate situation.    Below are 7 options if your home is underwater.   I have listed them in rough order of preference with the least preferable options given last

1. Do Nothing and Wait

For most people it makes sense to do nothing about negative equity.   If you don't have to move and you can afford your payments then you don't have to do anything.   The amount your home is worth is not really going to impact your day to day life anyway.  If you have a fixed mortgage and you aren't planning on sell the the home anytime soon there is really no need for any immediate action.   If you keep paying your mortgage and stay in the home long term then eventually you'll have positive equity again. 

2. Pay The Difference

If you do have to move or refinance then there is a reason to take some action.  If you have enough cash then you can cover the negative equity out of pocket.   Say you owe $100,000 on a home that is worth $95,000 if you sell the house you'll be $5,000 short.  If you pay that $5,000 to the bank out of pocket then you're clear.  Of course this is money out of your pocket. 

3.  Get Loan Modification or government refinance aid

The governments Making Home Affordable program, at MakingHomeAffordable.gov, has help for some borrowers with loan modification program.  If you are having trouble paying your mortgage and your payments are more than 31% of your income then you might qualify.  The mortgage has to be under $729k and originated before Jan. 1st 2009.   You may not qualify but it won't hurt to check.  If you do qualify then you may get into a 'temporary' modification which has no guarantee of becoming permanent.   But trying a modification is a better option than foreclosure.   The government also has a program that will help you refinance your home if you have no equity.   This might help you if you currently have an adjustable mortgage that you won't be able to afford after it adjusts. 


4. Rent out the House

If you need to move then you can rent out the home.   Renting a home may not pay the full mortgage so you are likely to be taking a monthly loss. This option may work for some people but it has the potential to turn into a second nightmare.   There is a lot of work and significant financial risks involved renting out a home and many people aren't suited for being a landlord. Try to avoid renting out a home if the mortgage is significantly higher than the rent.   You don't want to be throwing several hundred dollars a month into a house.

5. Short Sale


A short sale is when you sell the house for market value and the bank gets all the money.  You are short in any negative equity but the bank may prefer this loss over having to take the home through foreclosure.   Short sales are supposed to be better on your credit score than an outright foreclosure and it should be less disruptive to your life since you aren't being kicked out of your home.


6. Foreclosure

If your situation is very bad then you could simply give the house up to the bank.   This is certainly not a first choice recommended strategy due to the negative impact on your credit for several years.   Foreclosure also costs the bank and community directly or indirectly.   I'd try a short sale before foreclosure but the bank may not be interested in a short sale.  If you have tried the above options and failed then a foreclosure may be the only thing to do short of a total bankruptcy.

7. Bankruptcy

If you have large consumer debts such as credit cards or personal loans in addition to an underwater house then it may be time to consider bankruptcy.   Bankruptcy is of course not something to be taken lightly and should be the option of last resort.   Bankruptcy will trash your credit for years.

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