Definition
Underwater is a term used in real estate to describe a property whose market value is less than the outstanding balance on the mortgage. This indicates that the homeowner owes more on the mortgage than the current value of the property. Such situations can arise due to various factors including economic downturns, falling real estate prices, or inflated mortgage payments relative to the property’s worth.
Examples
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Example 1:
- Original Purchase Price (2007): $1,000,000
- Market Value (2017): $600,000
- Mortgage Balance (2017): $700,000
- Scenario: The property is underwater because its market value ($600,000) is less than the mortgage balance ($700,000).
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Example 2:
- Original Purchase Price (2010): $300,000
- Current Market Value (2021): $250,000
- Mortgage Balance (2021): $270,000
- Scenario: Here too, the property is underwater as the mortgage debt ($270,000) exceeds the property’s value ($250,000).
Frequently Asked Questions (FAQs)
What does it mean when a property is underwater?
When a property is underwater, it means that the property’s market value is less than the mortgage balance owed by the homeowner. This scenario creates negative equity, which can make it difficult to sell or refinance the property without incurring a financial loss.
How can a property become underwater?
A property can become underwater due to various factors such as a decline in the housing market, economic recession, or having taken a mortgage with high-interest rates or poor terms.
What should a homeowner do if their property is underwater?
Homeowners with underwater properties have several options, including:
- Continuing to make regular mortgage payments
- Refinancing through special government programs for underwater mortgages
- Seeking a loan modification from the lender
- Considering a short sale, where the property is sold for less than the mortgage balance with lender approval
Can underwater properties recover?
Yes, underwater properties can recover if the real estate market improves and property values rise over time. Other factors such as general economic recovery and paying down the mortgage principal can also help.
Related Terms with Definitions
- Negative Equity: A situation where the value of a property is less than the mortgage owed on it.
- Loan Modification: A change made to the terms of an existing loan by the lender, often to make the loan more manageable for the borrower.
- Short Sale: A sale of real estate in which the proceeds are less than the balance owed on the mortgage with lender approval.
- Refinancing: The process of obtaining a new mortgage to replace the original one, often to take advantage of better interest rates or terms.
- Foreclosure: The legal process by which a lender takes control of a property and sells it to recover the mortgage balance owed by the borrower.
Online Resources
References
- “Real Estate Investing For Dummies,” by Eric Tyson and Robert S. Griswold
- “The Millionaire Real Estate Investor,” by Gary Keller
- “Your Keys to a Successful Home Ownership,” by Undrai Fizer
- Consumer Finance Protection Bureau on Underwater mortgages improvement initiatives.
Suggested Books for Further Studies
- “The Automatic Millionaire Homeowner” by David Bach
- “The Book on Rental Property Investing” by Brandon Turner
- “Rich Dad Poor Dad” by Robert T. Kiyosaki
- “Real Estate Investing in Your 20s” by William Kenny
- “Investing in Apartment Buildings” by Matthew A. Martinez
Real Estate Basics: Underwater Fundamentals Quiz
### Is an underwater property where the mortgage is less than the property value?
- [ ] Yes, the mortgage is less than the property value.
- [x] No, the mortgage is more than the property value.
- [ ] It is when there is no mortgage but still low property value.
- [ ] When the property's value exceeds the maximum allowed for the area.
> **Explanation:** An underwater property is defined as having a mortgage that exceeds the market value of the property, leading to negative equity.
### What is negative equity in real estate?
- [ ] When the property has positive cash flow.
- [x] When the property value is less than the mortgage outstanding.
- [ ] When all debts are paid off.
- [ ] When mortgage interest rates are at their lowest.
> **Explanation:** Negative equity occurs when the value of a property is lower than the mortgage balance owed by the homeowner, resulting in negative equity.
### Which program can help homeowners refinance an underwater mortgage?
- [x] Making Home Affordable (MHA) program
- [ ] Federal Interest Lock (FIL) program
- [ ] Reverse Annual Capital (RAC) program
- [ ] Individual Development Loan (IDL) program
> **Explanation:** Programs like the Making Home Affordable (MHA) program, including HARP (Home Affordable Refinance Program), are designed to aid homeowners in refinancing underwater mortgages.
### What is a short sale?
- [ ] Selling property at market value.
- [ ] Buying a home with a shorter loan term.
- [x] Selling property for less than the mortgage balance with lender approval.
- [ ] Refinancing with a shorter payment plan.
> **Explanation:** A short sale occurs when the lender allows the homeowner to sell the property for less than the outstanding mortgage balance as an alternative to foreclosure.
### Can the equity of an underwater property improve over time?
- [x] Yes, if property values increase.
- [ ] No, it is impossible to improve.
- [ ] Only if the interest rates decrease.
- [ ] Only by refinancing to a longer term.
> **Explanation:** The equity of an underwater property can improve over time if property values increase or as the homeowner continues to pay down the mortgage balance.
### What is a common cause for a property becoming underwater?
- [x] Economic recession.
- [ ] High initial downpayment.
- [ ] Reduced interest rates.
- [ ] Property tax refunds.
> **Explanation:** Economic recession is a common cause for properties becoming underwater as it often leads to decreased property values.
### Which initiative is NOT typically viable for underwater property?
- [ ] Continuing mortgage payments.
- [ ] Short sale authorization.
- [ ] Loan modification.
- [x] Immediate foreclosure without lender permission.
> **Explanation:** Immediate foreclosure without lender permission is not typically a viable option for dealing with an underwater property and generally involves legal processes.
### Is having an underwater mortgage a rare situation?
- [ ] Very rare in all market conditions.
- [x] Common during housing market downturns.
- [ ] Only applicable to luxury real estate.
- [ ] A myth, it doesn't actually happen.
> **Explanation:** Underwater mortgages are more common during housing market downturns when property values decline below the mortgage balance.
### Who might benefit from a loan modification in an underwater property scenario?
- [x] Homeowners struggling with current monthly payments.
- [ ] Investors looking for short-term liquid assets.
- [ ] Lenders seeking immediate repossession.
- [ ] Buyers looking to assume the original loan terms.
> **Explanation:** Homeowners who are struggling with their current monthly payments might benefit from loan modifications which can alter the terms of the loan.
### How is foreclosure related to underwater properties?
- [ ] Water damage in properties.
- [ ] Sudden increase in property value.
- [x] Lender-initiated sale due to unpaid mortgage.
- [ ] It denotes refinancing success.
> **Explanation:** Foreclosure is related to underwater properties as it involves lender-initiated sales due to unresolved unpaid mortgage balances leading to property takeover.
