What is a negative equity home loan?

When you buy a house or other property, you may expect its value to keep rising. However, there are certain conditions that could lead to the house and land value falling. 

When a dwelling’s value crashes due to uncontrollable circumstances, you could end up with a negative equity mortgage. This means that the amount you need to repay on the mortgage is higher than the value of the property. 

What is a negative equity mortgage?

Your equity in a property is the difference between the current value of the house and the loan secured on it. When the current value of the property is less than the mortgage amount owing, it is known as a negative equity mortgage.

In these cases, the risk for the lender rises considerably, because if the borrower defaults, the lender may not be able to recover the entire loan amount by selling the property. 

Reasons for a negative equity mortgage

• Falling dwelling values in the area: An economic downturn, or changes to an area’s infrastructure and accessibility, could lead to dwelling values falling across that entire market.
• Buying with a low deposit: Buying a property with a low deposit, whether by paying for Lenders Mortgage Insurance (LMI) or getting help from a guarantor, could risk seeing you end up in negative equity sooner as you have less starting equity to work with.
• Overbidding on a property: If you find yourself caught up in the hype of a real estate auction or private sale campaign, there's a risk you could end up paying more for a property that it may really be worth. 
• Buying when the market cycle is at its peak: Buying your house at the peak of the market cycle could put you at a disadvantage during long dips. These recessions in prices can last a few years, so you might want to plan accordingly.
• Overcapitalisation: This is when the cost of renovating a property is more than the value it adds to the property. Overcapitalisation can be a risk when the borrower uses a home equity loan to renovate the house, as the equity loan may increase the mortgage amount without adding much to the market price of the house. 

Which places in Australia have the most negative equity home loans?

In 2019, the RBA found that most cases of negative equity mortgages in Australia are in the Northern Territory, Western Australia and Queensland. This is largely due to the persistent fall in prices in houses in these areas. The low growth of income and a higher rate of unemployment aggravates the situation. 

In late 2022, RateCity analysis of ANZ house price forecasts and CoreLogic data found that the average new capital city apartment owner who bought with a 10 per cent deposit in November 2021 would fall into -5 per cent negative equity by the end of 2023, while those who purchased a house would be in -4 per cent negative equity.

Negative equity mortgage solutions

What can you do if you are left with a negative equity home loan? You may be able to take steps to rectify the situation: 

• Get an independent valuation: To protect yourself better from a negative equity home loan, you could keep yourself updated about the current market price of your house, such as by ordering a free property report. You can also hire an independent appraiser to get a better idea of the value of your property. 
• Paying down your mortgage: The mortgage term on your house is typically measured in decades, during which you could be at risk of getting caught in the troughs of the market cycle. However, if you manage to lower your mortgage principal by making higher repayments, you may be able to pay off your home loan faster, and hopefully reduce the chances of being left with a negative equity home loan. 
• Renovate: If you can afford to do so without overcapitalising, making some improvements to your property could help to raise its value and increase your equity. You may want to consider focusing on which improvements may be the most value-adding.
• Negotiate your rate: While refinancing to another lender may not be easy if you’re in negative equity, you may have the option to contact your current lender and ask if they can offer a lower interest rate. This could allow you to put more money towards lowering your mortgage principal, building your equity back up over time.

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