What does it mean to be underwater on your mortgage?

What is an underwater mortgage?

When you buy a home, the mortgage loan is less than the total value of the home, inclusive of the down payment. However, if your home’s property value declines and subsequently becomes worth less than the principal of the loan, your mortgage is underwater, or upside-down.

Turn data into insights with Excel

Make better decisions backed by data and insights

Learn more

An underwater mortgage is primarily caused by falling property values. When a homeowner is in an underwater mortgage, they may be unable to refinance or sell their home, unless they are able to pay the loss out of pocket.

With limited options, an underwater mortgage increases risk of foreclosure, placing homeowners in a precarious and stressful situation. And if they are dealing with an underwater balloon mortgage, a looming balloon payment, with limited options, can further compound financial stress.

How does an underwater mortgage happen?

An underwater mortgage loan isn’t uncommon. Many homeowners must navigate underwater mortgages caused by certain market conditions. Those circumstances include the following:

• Declining property values. The value of real estate is subject to market conditions. An economic downturn, oversaturated housing market, and neighborhood or location changes can individually, and collectively, depreciate the value of your home. Although value fluctuations are common, they can cause your mortgage to go underwater. For example, if you purchased a $500,000 home with a 5% down payment, the principal on your mortgage loan would be $475,000. If the value of your home dropped to $450,000, then your mortgage would be underwater.
• Overevaluation during appraisal. Similarly, to declining property values, an overappraisal can result in a homeowner owing more on their home than its value. To avoid overpaying for your home, make sure to work with a reputable appraisal. Additionally, conduct your own due diligence by comparing the price of your prospective home to similar listings, seeing how long it has been on the market, and independently confirm the home’s conditions match its price point.
• Small down payment. When you purchase a home, the size of you down payment can vary. In certain cases, like an FHA or VA loan, you may purchase your home with a low down payment. In which case, home value decreases will make your mortgage loan more susceptible to going underwater.

How to navigate an underwater mortgage

• Continue making mortgage payments. As price fluctuations are common, sometimes the best solution is to continue paying monthly mortgage payments as normal. Home values are likely to rebound with time. Additionally, by continuing to make payments toward the principal, you will eventually build equity in your home.
• Refinance a government backed mortgage. When you mortgage is underwater, it’s unlikely that you will be able to refinance your home unless you have a government backed mortgage. An FHA, USDA, and VA may have refinancing options to explore.
• Reach out to your mortgage lender. If you’re struggling to keep up with your monthly payments, you may be at risk of foreclosure. In this case, you should reach out to your mortgage lender to explore alternative solutions. You may be able to modify the terms of your loan to maintain possession of your property. Other potential solutions include a short sale or deed-in-lieu of foreclosure.
• File for bankruptcy. If your financial circumstances are dire and need relief, you may consider filing for bankruptcy. Although you can receive relief, filing for bankruptcy has repercussions on your financial health. Learn the difference between Chapter 7 and Chapter 13 bankruptcy to determine if one is the right option for you.

An underwater mortgage can be overwhelming, but you have options to return your home to a solvent financial state. If you are struggling to make your monthly mortgage payments, learn more budgeting tips.