What to Do When You’re Upside Down on Your Mortgage
- September 19, 2020
- by Ashley Chorpenning
If you’re underwater on your mortgage you owe more than the home is worth. You probably have more choices than you realize. Read on for our breakdown. Some strategies require no work, others are fairly risky.
According to the Institute of International Finance, the U.S. public and private sector debt nearly reached $70 trillion in the first quarter of 2019. As U.S. debt continues to rise, so does the financial stress and uncertainty many Americans face around the country.
While credit card or student loan debt may seem negative, nothing compares to the feeling of potentially losing your home. If you’re underwater on your mortgage, it can feel very difficult or even impossible to fix it. But don’t worry, if you’re in this situation you have several options.
Stay Right Where You Are
One of the best options is to stay put. You can’t lose money on your home if you stay right where you are. Sure “on paper” your home may be under water, but if you plan to stay put for 20 years the market may rebound way before then. Staying put is a great choice if you have the flexibility to stay in your home and you like your community.
However if your spouse must relocate for a new job or you need to sell due to a divorce you may have no other option but to take a loss on your property.
The overall regional economy is a factor. After home prices peaked 2006 - 2007 prior to the great recession it took 5-10 years for home prices to recover in many large cities, with the USA taking an average of 11 years. In some areas home prices dropped and have yet to fully recover.
Try a Short Sale
If you absolutely must sell your home right now, you may want to consider a short sale. With a short sale, your lender allows you to sell your home for less than you owe. For example, let’s say you owe $200,000 on your mortgage but agree to sell for $160,000. Lowering the price will help you move your property faster and help you minimize your losses. In the case of a short sale your lender would be the one to take the financial loss.
Keep in mind a short sale can be a tricky process. Your lender has the option to approve or reject any offer. If the lender chooses to reject an offer, the deal will fall through. Some lenders won’t even entertain the thought of a short sale. So, before you consider this option, speak with your lender to verify their willingness to move forward with a short sale.
Also, it’s important to note a short sale can negatively impact your credit score. If you plan on buying another property, you may have to settle for a higher interest rate and less than ideal terms.
Sell At A Loss and Pay the Difference
If you bring cash to the table, the bank will allow you to sell your home for less than you owe. You can find out how much you need by taking the following:
Loan Balance(s) - Home Value + Closing Costs = Extra Needed To Sell
For example, if you owe $200k on a home that has a current market value of $180k, and closing costs are $10k, you would need to bring 200 - 180 + 10 = $30k in order to sell. That is essentially the price tag of saving your credit and avoiding the extra work of a short sale.
Refinance Your Mortgage
Refinancing your mortgage can be a good option if you want to find better terms, lower your monthly payment amount, or decrease your interest rate. While refinancing isn’t a complete fix, if you lock in a lower rate it will help you get out of debt faster.
There are two complications to refinancing a home that is under water. The first is most lenders require refinancing applicants to have at least 5% - 20% equity in their home. If you recently bought your home and are upside down on your mortgage you would need to kick in extra cash to cover it. The second problem is lenders want solid borrowers with a stable job and a good credit rating. When home prices drop that tends to coincide with layoffs.
In the past, homeowners had the option of using the HARP or the Home Affordable Refinancing Program. This program was backed by government funding and helped people who were facing financial hardship modify their loans. Unfortunately, this program expired at the end of 2018.
Refinancing makes sense if you want to stay in the home for a long time, and are able to lock in a substantially lower interest rate (which will potentially lower your monthly payment and put you way head in the future).
You may want to start by reviewing your budget and determine areas where you can cut back on your spending and put your extra cash toward your mortgage payments or home equity. Putting extra money toward your monthly payment amount will help you repay your debt at a faster rate.
Default On Your Payments
Some homeowners are convinced the price and value of their home will never increase. So they stop making payments even if they can still afford to make them. We are not endorsing this idea at all, but merely pointing out that it has been done, especially during the great recession. Turns out people voluntarily defaulting hurt the housing market even more. While some may argue that it’s unethical (and we agree), others think that they shouldn’t have to make payments on what has become a poor investment decision.
This method is commonly known as a strategic default. It depends on what you signed. If the home is the only collateral in the deal, which is common but not always the case, the only recourse the bank has is to repossess (foreclose) on the home if you stop making payments. The bank will report your lack of timely payments to the credit bureaus, which will severely damage your credit rating.
This tactic has severe consequences, aside from a plummeting credit score. When you don’t make payments on your mortgage, your home faces foreclosure. If it does foreclose, you’ll not only be out of a home, but this decision could stay on your credit report for at least seven years. During the “strategic default” you could live “rent free” but the uncertainty of when the bank will foreclose and when the sheriff will show up and kick you out is too much for most people to handle. From there, getting another place to live would be an uphill battle.
If possible, the best option may be to wait it out until you can refinance your property. If you don’t want to significantly impact your credit score or face a financial loss, sticking it out may make the most sense, or selling at a loss.
To determine what interest rate makes sense to refinance, use our Loan Refinance Calculator to potential offers.
Remember, the best way to handle financial stress is to make a plan of action. The better prepared you are, the better chances you’ll have of reaching financial success.