Underwater Mortgage: A Quick Guide

Your home is most likely your biggest valuable asset and an essential tool for building your wealth over the long term. That said, like any other assets you invest in, home value fluctuations and such fluctuations can cause issues like being underwater with your mortgage.

Is that even a thing? Yes, it is!

This article shares the basics of underwater mortgages for homeowners and possible solutions like the FMERR Program to get out of an underwater mortgage.

Understanding Underwater Mortgage

Also known as an upside-down mortgage or negative home equity, an underwater mortgage refers to a situation when the principal balance from your mortgage exceeds your home value.

In short, it’s when you owe your lender more than your home’s worth.

For instance, you owe $250,000 on your mortgage, but the market value of your home is only $200,000, making your mortgage $50,000 more than the value of your home; this is considered an underwater mortgage.

Today, underwater mortgages are less common due to the stricter underwriting standards. Also, the record price for homes had already increased since the pandemic. So, even if your mortgage did fall underwater during the start of the pandemic, there’s a strong possibility your home is worth more now than it was when you first bought it.

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How To Determine If You Have Underwater Mortgage

The equation for determining if your mortgage is underwater is straightforward. You subtract your loan balance from the value of your home. If you get a negative answer, then it means you are underwater.

That said, the more difficult part is determining your mortgage balance and the value of your home.

To figure out how much you owe, check your mortgage statement for the “outstanding principal” or “principal balance.” Or you can also call your lender and ask them directly.

Determining your home’s value is a lot tricker. Having your home assessed by a reputable home appraiser is the best method to acquire an accurate calculation, best if you’re thinking of selling your home. If not, you can get a ballpark figure from real estate portal websites.

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What To Do When You Have An Underwater Mortgage

If you get a negative answer by your calculations, which means your mortgage is underwater, here are some options to help you change your situation.

1.) Refinancing

Refinancing an underwater mortgage is tricky since you need equity to do it. However, it is possible if you’re backed with programs like FMERR.

Short for Freddie Mac Enhanced Relief Refinance, the FMERR program is specifically designed for homeowners with an underwater mortgage.  It helps make your mortgage more affordable by lowering your loan rate and monthly payment or helping you increase your equity faster with a shorter repayment period.

This program is available if you take out a mortgage on or after October 1, 2017, and don’t have late payments. Requirements may also include having no 30-day delinquency within the last six months and not having had more than one 30-day delinquency in the previous year.

2.) Stay On Your Payments

Perhaps the simplest option you can do if your mortgage is underwater is to stay in your home and continue paying your mortgage payments.

Paying down the principal balance allows you to build equity. Also, if possible, make extra principal payments to reduce your loan balance faster.

3.) Make Home Improvements

Other than staying current on your mortgage payments, you can also try increasing the value of your home.

In general, you can do simple jobs such as improving curb appeal, repairing damaged areas, and other DIY tasks that can help improve home value.

4.) Sell Your Home

You need to meet two conditions to sell a home with an underwater mortgage.

First, you need to make up the difference between your sale price and loan balance with a cash payment at closing.

Second, you need permission from the lender to sell short. Unless you’re financially broken and struggling to make payments, in which case you lack the funds to bring cash to closing, selling your underwater mortgaged home is not a good idea. Otherwise, a short sale can be a better alternative to a foreclosure.

That said, your lender will not allow for a short sale unless you show proof of hardship that keeps you from making payments such as disability or job loss.

Also, please take note it can take months before a lender approves a short sale, causing you to get more late payments which can harm your credit as much as a foreclosure. Plus, even if your lender approves the short sale, you’ll have to pay tax on the amount of mortgage balance that the lender forgives.

Take Away

And there you have it!

An underwater mortgage is not a situation that any homeowner wants to be; however, it does happen more than you may think.

So, if you’re currently underwater in your home and feel like you’re drowning in your mortgage payments, look for experts that can help you get through this.

Buying Home With Student Loan Debt

Whether you have been out of college for a few years or quite a while at this point, you may dream of owning a home in the not-so-distant future. However, it can be expensive to get a home, especially with all the upfront costs. If you have student loans, it can even seem prohibitive. There are several pros and cons of getting a home before your loans are paid off.

Lowering Your Monthly Expenses

Saving for a down payment is possible if you are able to lower your monthly expenses enough. Part of each paycheck can go into a savings account for your home. Try to cut costs by shopping sales and using a budget to track all spending. You can even cut expenses when it comes to your student loans.

One way to save money is to refinance student loans to get a better rate or a longer term. While it might take longer to pay the money back, you won’t have to pay as much each month, so homeownership might be more attainable.

Understanding Debt vs. Income

To qualify for a mortgage, you will need to have a low enough debt-to-income ratio. A lender looks at other debt you already have, including student loans. If your ratio is too high, it means you already have a lot of debt in comparison to the amount of income you are bringing in.

It could be best to wait until more loans are paid off or your income increases. You can follow simple money management tips and increase it yourself through side hustles or a better job. Even getting a raise at work might be enough to push your annual income up enough to get a favorable mortgage. On the other hand, getting a student loan refinance can also help decrease the debt-to-income ratio.

Deciding if You Have a Large Enough Down Payment

It’s a good idea to try for at least 20 percent of the home’s total price so you don’t need to get private mortgage insurance. However, with rising home prices, it’s not always possible to save this amount, and there are plenty of lenders that require a much smaller percentage.

You’ll also want to ensure you have enough saved for hidden costs related to homeownership so you aren’t taking on more than you can handle. When you have student loans, it’s especially important to ensure you aren’t getting in over your head.

Signs You Might Be Able to Afford a Home

Even if you are still paying off student loans, you may be able to afford a home if you already have a fairly large down payment saved up. And if you make enough income to cover additional costs, such as maintenance, you might be able to afford one.

In some cases, it can be better to own than rent, especially if you plan to stay in a quickly growing area for a number of years. You might be able to get a house that has more space for a similar monthly payment to a rental property. Plus, your home can grow in value over the years.