Negative equity is the term given to the situation where an entity owes more on its loans than it has in assets to cover the debt. It’s essentially a company that’s got too much debt, which can be problematic if not addressed quickly.
To build liquidity, negative equity needs to be reduced or removed. For example, if you have a mortgage loan for £100,000, and you owe £110,000 on your property then this would be considered negative equity.
Different Types of Negative Equity Situations
When it comes to negative equity, many people are confused about what exactly it is. Negative equity is when you owe more on your loan than the house is worth. Negative equity can happen for a number of reasons, including:
- Rising interest rates
- An unexpected decline in property values
- Heavy renovations or improvements that add more to the value of your home than originally planned
The most common negative equity situations are:
Disposable Income Negative Equity – When income falls below the level needed for debt payments, even though asset value has increased, the borrower’s disposable income decreases causing negative equity.
Partial Asset Negative Equity – When annual income falls below the level needed for debt payments and only some of an asset’s value has been paid off, it is said to be in partial asset negative equity.
When Should You Start Worrying About Negative Equity?
It is not a question when it should be a concern, but when you should start to worry about your property’s equity. It’s important to know the difference between negative and positive equity because you could lose money in the current market. Negative equity refers to when your property’s value has dropped below the amount that it costs to rent or own it.
There are three main reasons that negative equity may happen:
1) You are no longer able to afford the mortgage payments
2) You are renting out your property on Airbnb or other short-term rentals, which reduces its true rental value
3) The market changes and makes your investment less valuable
Negative equity can add to your already high mortgage payments and create a lot of financial stress. It’s important to pay down this debt while it’s still manageable, so that you’re not stuck in a situation where you owe more than the house is worth, so it’s a good idea to get professional advice from a specialist, who’ll be able to help you put a plan in place to tackle your negative equity.