While you might expect CoreLogic’s recent study on negative equity to indicate that the entire nation is underwater, in reality the number of homes that have negative equity is not only under 25 percent, but the number is dropping[1]. While the numbers are dropping (from 23 percent to 22.5 percent at the end of 2010, for a total of more than 200,000 fewer homes no longer underwater), the decline may be due to the fact that properties are heading into foreclosure. As homeowners exit the property and fork over their keys, they cease to be underwater because the debt ceases – in varying degrees depending on the lender – to exist. However, it is indicative that the market is trying to heal itself.
According to CoreLogic, negative equity is further concentrated in five states: Nevada (67 percent upside down), Arizona (49 percent upside down), Florida (46 percent upside down), Michigan (38 percent upside down) and California (32 percent upside down)[2]. While these statistics may seem daunting, experts in the field are emphasizing that on the whole, it is good news. “Everyone likes to get headlines, so they tend to overstate problems like this,” explained Kenneth Rose, chair of the University of California, Berkely, Fisher Center for Real Estate and Urban Economics. Rose believes that the number of people who are “in trouble by quite a bit” may be largely overstated” by the media.
While the people who own the homes are definitely in trouble, the larger issue for economists is how this trouble impacts the housing market as a whole. Underwater mortgages threaten the housing industry because they represent a loss that must be taken somewhere – partly on the part of homeowners and partly on the part of lenders. However, the degree of negative equity also plays a major role in just how problematic such a home is. According to Corelogic, 10 percent of underwater homeowners owe more than 125% of the value of their house, while 13 percent owe less than 125% of their house. 78 percent owe less than their house is worth[3].
Stan Humphries, Zillow’s chief economist, points out that negative equity is always “fuzzy” until the home is sold anyway. Home valuations tend to err on the low side, so homes may be pushed into the negative-equity category that are actually hovering right on the margin, he said. As a result, the problem, while certainly significant, may be overstated. Furthermore, when homeowners do not know what category they are in, they tend to assume the worst, which can lead to strategic defaulting even when the benefit to such an action is negative for every party involved. Economist Tom Lawler explains it this way: “Would you seriously consider wasting your credit because you owe $5,000 more than you think your home is worth?”
As a real estate investor, are you troubled by these negative equity numbers? Do you hold notes on houses that are underwater and, if so, how have you handled the issue thus far?
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Go here to read about how homeowners’ negative impressions about their home equity situation — accurate or not — could keep Nevada’s housing market in the red for years to come.
[1] http://shortsaledailynews.com/negative-home-equity-set-your-potential-clients-straight/
[2] http://www.bankrate.com/finance/home-equity/why-a-home-equity-loan-is-hard-to-get.aspx
[3] http://online.wsj.com/article/SB10001424052748704739504576067822437434618.html
Hi Carole,
Katie from Zillow here. Interesting story, but I wanted to correct just a couple of points about what Stan Humphries said.
First, it’s not accurate to say that Zillow home valuations tend to err on the low side. As we pointed out in The Wall Street Journal (http://online.wsj.com/article/SB10001424052748704739504576067822437434618.html), we know, through extensive research, that our home valuations are unbiased; they are just as likely to be low as they are high. Additionally, it was the author of the story, Carl Bialik, who called negative equity “fuzzy” until a home is sold, not Stan.
It was also Carl’s hypothesis that negative equity is overstated. Carl asserts that, because there are more homeowners with slightly positive equity than slightly negative equity, and because individual home valuations have a margin of error (although it is symmetrical around zero), more homeowners who actually have positive equity are pushed into the negative equity category. However, there is no empirical study that shows this actually occurs. If it does occur, the effect is likely to be quite small.
Bryan,
I think one way to escape negative equity is to do a lease purchase on any properties owned that are not neccessary for one’s personal living quarters. If an owner completes a lease/option contract with a potential buyer, that owner has cash-flow while granting possession of the home to said buyer without obligation to repair or maintain the property at the owner’s expense. Therefore there is possitive cash-flow coming in with little expense other than possibly insurance and taxes. I would definately insure the property to cover costs of a possible loss that the owner might be responsible for should such an incident occur. At that point, the owner simply takes his/her cash-flow monies from the leassee while waiting out the return of the real Estate market. That’s my view, what’s your’s? I’d be interested in hearing your view as always. Thanks for reading!