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Negative equityoccurs when the value of an asset used to secure a loan is less than the outstanding balance on the loan.1In the United States, assets (particularlyreal estate, whose loans aremortgages) with negative equity are often referred to as beingunderwater, and loans and borrowers with negative equity are said to beupside down.

People and companies alike may have negative equity, as reflected on theirbalance sheets.

The term negative equity was widely used in theUnited Kingdomduring the economicrecession between 1991 and 1996, and inHong Kongbetween 1998 and 2003. These recessions led to increased unemployment and a decline in property prices, which in turn led to an increase inrepossessionsby banks andbuilding societiesof properties worth less than the outstanding debt.2

Since 2007, those most exposed to negative equity are borrowers who obtained loans of a high percentage of the property value (such as 90% or even 100%). These were commonly available before thecredit crunch. Such cases are of course the most at risk from falls in property value.citation needed

In the owner-occupiedhousing market, a fall in themarket valueof amortgagedhouse or apartment/flat is the usual cause of negative equity. It may occur when the property owner obtains second-mortgagehome equity loans, causing the combined loans to exceed the home value, or simply because the original mortgage was too generous. If the borrower defaults,repossessionand sale of the property by the lender will not raise enough cash to repay the amount outstanding, and the borrower will still be indebtas well as having lost the property. Some US states likeCaliforniarequire lenders to choose between going after the borrower or taking repossession, but not both.citation needed

It is also common for negative equity to occur when the value of a good drops shortly after its purchase. This occurs frequently in automobile loans, where the market value of a car might drop by 20-30% as soon as the car is driven off the lot.citation needed

While typically a result of fluctuating asset prices, negative equity can occur when the value of the asset stays fixed and the loan balance increases because loan payments are less than the interest, a situation known asnegative amortization. The typical assets securing such loans arereal property commercial, office or residential. When the loan isnonrecourse, the lender can only look to the security, that is, the value of the property, when the borrower fails to repay the loan.citation needed

A person who has negative equity can be said to have negative net worth, where the persons liabilities exceed their assets. One might come to have negative equity as a result of taking out a substantial, unsecured loan. For example, one might use astudent loanto pursue higher education. Although education increases the likelihood of higher future earnings, potential alone is not a financial asset.citation needed

In the United States,student loansare rarely dischargeable inbankruptcy, and typically lenders provide student loans without requiring security. This stands in contrast to lenders requiring borrowers to have an equity stake in a comparably-sized real estate loan, as described above, secured by both a down payment and a mortgage. An explanation for the willingness of creditors to provide unsecured student loans is that, in a practical sense, American student loans are secured by the borrowers future earnings. This is so since creditors may legally garnish wages when a borrower defaults.citation needed

A homeowner who is under water might be financially incapable of selling their current house and buying another one.3

Americas foreclosure plan: Cant pay or wont pay?, Paragraph 5,

Negative equity set to pass into housing history. The Independent. October 18, 1996.

Zillows Humphries on U.S. Housing Market Outlook.

Home Sellers Checklist: Everything You Need to Know to Get the Highest Price for Your House

The Complete Idiots Guide to Buying or Leasing a Car

Articles with limited geographic scope from October 2016

Articles with unsourced statements from September 2018

This page was last edited on 20 February 2019, at 11:32

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