The negative equity trap
For many people the words negative equity hold special and worrying significance particularly if they grew up during the last housing crisis in the early 1990's. But many of us probably don't really know what it is or what it might mean for us if we own a property. Here Christina Jordan, explains what negative equity is and what you're options might be if you fall into the negative equity trap.
The negative equity trap
In the 10 years to August 2007 the average UK property rose by a whopping 190 per cent, according to Halifax, and many regions saw even bigger increases.
Those people who bought their property 10 years ago probably hold a significant amount of equity. In other words the value of their homes will be much higher than their outstanding mortgage debt.
But if you bought in the last couple of years you may well have purchased at the top of the market and you could be at risk of negative equity.
What is negative equity?
It is when the value of your property is less than your outstanding mortgage debt - so you owe more than your home is worth.
How do you get into negative equity?
Negative equity usually happens when property prices fall. At the moment prices have fallen by 4 per cent in the last 12 months according to Nationwide. And if they continue to fall, as is expected, more people will fall into negative equity.
Who is at risk?
Those most at risk are people who borrowed a high percentage of their property's value - in other words could only put down a small percentage as a deposit, or nothing at all.
The loan-to-value (LTV) ratio is your mortgage as a proportion of your property's value. So if you owe £75,000 on a £100,000 property your LTV is 75 per cent. The bigger your deposit as a percentage of the property's price, the lower your LTV.
In the last few years lenders have been offering extremely high LTV products with 95 per cent LTV commonplace. They went further, providing mortgages to those with no deposit - 100 per cent LTV - and even offering more than the value of the property - up to 130 per cent LTV.
If you borrow more than the value of the property you automatically go into negative equity, but those who recently borrowed 100 per cent are clearly in danger too. Even if you had a deposit you could be at risk if it was a small one. If you originally borrowed 95 per cent of the property's value for example, you could now be in negative equity if your property's value has dropped by more than 5 per cent.
What happens if I go into negative equity?
Apart from the psychological impact, negative equity does not affect you until you want to move house, change your mortgage or if you cannot afford your repayments.
If you are happy in your home, and can comfortably afford your mortgage, you can continue repaying your debt and hopefully property prices will rise again over the long term and take you out of a negative equity position.
What if I can't afford my mortgage?
Then you might have a serious problem.
Ordinarily you would shop around for a more competitive deal if your repayments increase. But if you are in negative equity you may find it difficult to remortgage because your LTV will have altered.
If your property's value has fallen your LTV will have increased and lenders have stopped lending mortgages at high LTVs - which could leave you unable to get a new deal.
All 100 per cent plus and 100 per cent mortgages have been removed from the market. Most lenders will only lend to a maximum of 90 per cent or 95 per cent LTV, so if your LTV has crept above this level, or you have gone into negative equity you will have no choice but to revert to your lender's SVR, which will be more expensive.
To make matters worse, lenders have made mortgages at 90 per cent LTV and above much more expensive, so you might find that even if you are able to get a new deal, it will not be any cheaper than reverting to your lender's SVR, especially when you consider the costs of remortgaging, which average over £1,000.
Your lender's SVR might be your best option - even though it will mean an increase in your monthly repayments.
What if I want to move house?
It is very difficult to move house if you have negative equity unless you are planning to downsize. If you want to move to a property at the same or a higher value no lender will currently be willing to offer you a mortgage.
You could consider letting your property to help you move. Ray Boulger, senior technical manager at mortgage brokerage Charcol, explains: "In the nineties many people fell into negative equity and some let their existing property to cover their repayments, then got a new mortgage on a new property. In the current market achievable rent may not be enough to cover your mortgage commitments but rents are expected to rise which could make 'let and buy' a viable option."
What else can I do?
If you can afford your repayments at SVR the best thing you can do is stay put and keep paying. Hopefully property prices will begin to increase again and you can manage to pay your mortgage until you can remortgage to a more competitive deal.
If you can't pay your mortgage at SVR, speak to your lender. If it no longer offers any mortgages at your current LTV it may allow you to switch to an interest-only deal for a year or two, which would keep your payments down, or set up another temporary payment plan.
BM Solutions has a small percentage of its borrowers on a 125% LTV product, coming up for renewal in November. But the lender's maximum LTV is now just 95% and some of these borrowers will have higher LTVs than this.
Phil Rickards, BM's head of sales, says: "We will work with borrowers on a case by case basis as their product period ends. We are currently looking at initiatives that may provide options to these customers and would suggest that any borrower who has fallen into negative equity seeks the advice of a regulated intermediary."
How can I avoid negative equity?
If you are at risk of falling into negative equity the most proactive thing you can do is to overpay on your mortgage now, therefore reducing your loan commitment and LTV. This could make the difference between you being able to shop around for a new deal or being forced onto your lender's SVR because no other lenders will accept you.
Was I mis-sold my high LTV mortgage?
It's unlikely you were mis-sold your mortgage, especially if you took it out in the last four years when all residential mortgages have been tightly regulated.
However, if you were sold your mortgage without being advised what would happen if interest rates or house prices fell, you could have grounds for complaint.
In the first instance you should complain to the company that sold you the mortgage, which may be a lender or a broker. They are obliged to acknowledge receipt of your complaint within a week and to respond within eight weeks with a decision. If the response is not satisfactory you can complain to the Financial Ombudsman Service which will assess your complaint.
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