How to Deal With an Underwater Mortgage

By Ashley Kilroy · 7 minute read

An underwater house is more than just a financial burden—it’s an emotional one, too.

Rather than live in fear or denial, it’s smart to explore your options if you’re underwater or worried that an upside-down mortgage might be on the horizon.

Thanks to soaring home prices, the national negative equity share in late 2020 hit its lowest point in over 10 years, CoreLogic reported.

Still, more than 5% of mortgage holders, including those in forbearance plans, remained delinquent on payments in March 2021, up from 3.2% before the pandemic, according to Black Knight.

It takes a considerable toll to juggle an unfavorable loan while holding on to your home, but it’s essential to understand how to seek underwater mortgage help.

What Is an Underwater Mortgage Exactly?

Your home’s worth can shift while you’re still paying it off. An underwater mortgage, or an upside-down mortgage, means you owe more on your home than it’s worth.

That puts homeowners in a poor situation: It affects their finances if they have to catch up on payments or hurts their chances of selling in the near future.

What Causes an Underwater Mortgage?

An underwater mortgage can happen in one of two ways: missed payments or a property value decrease.

Let’s start with missed payments. From the moment you start paying off your loan, a process called amortization starts. Essentially, when you pay your mortgage, it is in equal installments that are split between the principal and the interest.

During the early years, the bigger portion of your payment covers the interest. As time goes on, your amortization schedule dictates how to divvy up that installment, with more going to the principal eventually.

If you miss a payment, the interest will continue to build. Compounding interest makes it more difficult to pay off a loan since missing a payment forces you to make increased monthly payments that match the accumulated interest. Eventually, your home loan may go underwater.

Making payments depends on you, but a decrease in property value may be out of your hands thanks to market fluctuations.

Suppose you buy a house for $300,000. You put a down payment of $11,000 on it, and your lender approves a loan to cover the remaining $289,000. Sometime down the line, a few of your neighbors go to sell their homes. There is a lack of buyer demand, though. So the local homeowners lower their selling prices, which affects your property’s value. Now you have a mortgage balance of, say, $250,000 on a home that is only worth $200,000.

How Do I Know If I Have an Underwater House?

There are a few ways to determine if you have an underwater house or upside-down mortgage. You may have picked up on some of the tells in the previous section.

Those who fall behind early in their loan term may be more susceptible than others. You’ll know if your late payments have led to an upside-down mortgage if you compare your current and original principal.

If the current principal is higher than it was when you first took out the loan, and the home’s value has not grown, you’re underwater.

Another sign is property depreciation. Monitor property prices in your area since falling values around you will affect your home’s value as well. That can include your local neighborhood or the greater surrounding area.

You can use a real estate database to keep track or talk to a local real estate professional who can explain the current and projected market to you. After you know the approximate price of your home, you can compare it to the amount you still owe on your loan.

If you want a more exact evaluation of your home’s value, you can pursue an independent appraisal. A professional can come to your home and take stock of the property’s condition, then compare it to others in your area. If the appraiser’s estimate is lower than your remaining loan balance, you have an upside-down mortgage.

What Are My Options If My Mortgage Is Underwater?

It’s hard on any homeowner when faced with an underwater mortgage. Many people are emotionally attached to their home, making the issue even harder to work through.

Some options may suit you better than others, depending on your situation.

Stay in the Home

Numerous situations may put your house underwater. You may want to speak with your lender honestly about your struggle to keep up with the mortgage. The lender might have ways to help you avoid foreclosure such as a forbearance agreement, which would pause or reduce your payments for a limited time.

You may also be able to work out a repayment plan with your lender if you have fallen behind on your mortgage. Your lender will discuss the time frame and parameters necessary if you want to pursue this option. However, you’ll need to be in a financially stable position, with enough extra money at the end of the month to afford the add-on costs.

Then there’s the Department of Housing and Urban Development (HUD), which connects struggling homeowners with approved housing counseling agencies.

You can also visit consumerfinance.gov/mortgagehelp or call (800) 569-4287 and enter your ZIP code to find a HUD-approved housing counselor.

Refinance Your Mortgage

Most lenders require you to have a minimum amount of equity in your home before refinancing. Because of this, regular refinancing options won’t be available to you if you’re underwater. However, you may still use refinancing to improve your situation for loans owned or backed by Freddie Mac and Fannie Mae.

You can find out whether your mortgage is a Fannie Mae loan here loanlookupor a Freddie Mac loan here loanlookup.freddiemac.com.

Freddie Mac offers the Freddie Mac Enhanced Relief Refinance program, which may let you refinance your home loan at current interest rates if you have little to no equity. It’s designed for homeowners who don’t meet the qualifications for a typical refinance, but it still has requirements. For example, your mortgage payments can’t be 30 days delinquent within the past 12 months.

Fannie Mae’s take on the relief refinance program is the high loan-to-value refinance . Like Freddie Mac’s program, it allows borrowers who make on-time loan payments to change the terms of their loan. The program comes with its own rules and benefits comparable to Freddie Mac’s.

Sell the Home

Some individuals may have to face the possibility of selling their home. If you can’t financially recover enough to pay the current mortgage payments on top of the missed installments you have to catch up on, you could sell your underwater home and cover the difference with cash.

Or you could turn to a short sale as a solution. In a short sale, property is sold for less than the home seller still owes on their mortgage. The money earned from the sale is then used to pay off the lender as an alternative to foreclosure.

The lender is also a big part of the short sale process. You have to negotiate the terms with the lender, which must approve the sale before it goes through.

It’s also typical for the borrower to prove their financial struggles to the lender during the negotiation process. That may include a hardship letter and concrete documentation supporting their claim.

A short sale could help you avoid foreclosure, which could hurt your chances of getting a loan in the near future. A person with a foreclosure on their record usually has to wait from two to eight years to get a new mortgage, according to Nolo.

Try a Deed in Lieu

If you’re unable to make your payments and are upside down on the mortgage, you could consider asking your lender if a deed in lieu of foreclosure is an option.

If it is, you would submit documentation about income and expenses in an attempt to deed the house back to the lender so that no foreclosure takes place.

The lender might require you to first attempt a short sale or look into a loan modification.

A deed in lieu will usually, but not always, release you from all obligations and liability tied to the mortgage. If a deficiency results—the difference between the home’s fair market value and the total debt—the lender might try to hold you liable for the deficiency. You can ask to have the deficiency waived or try to negotiate a reduced amount.

A deed in lieu will hurt your credit but not as severely as a foreclosure would.

Allow Foreclosure

If you have no way to make up missed payments and the home is underwater, you might have to let the lender foreclose on the property.

While this may seem like an easy deal on the surface—you get to walk away from the home causing you trouble—it’s not so simple.

A foreclosure can cause your credit score to take a nosedive, which hurts your future chances of getting loans or lines of credit. Bad credit can affect other areas of your life, too. Credit comes into play when you apply for rental housing, get a cellphone contract, buy a car, or sometimes get a job.

If what you owe exceeds what the foreclosure sale brings in, the difference is a deficiency. In some states, the lender can seek a deficiency judgment to recover the deficiency.

All things considered, you may want to think of foreclosure as a last resort.

Avoiding an Underwater Mortgage

Some factors that contribute to an underwater mortgage are in your control, and some are not. Still, it’s better to preempt any possible situations that could lead you to have an underwater loan.

Staying alert can help you stay on track and avoid possibly damaging circumstances.

Make Timely Payments

Making payments on time will help you build equity and stay in a more secure position if property values drop. There are a couple of ways you can keep tabs on both your loan payments and your home’s worth.

Looking into rental or property-buying sites can help you get a perspective on your home’s current value. You can also check in to see how the market is fluctuating, which can help you predict any moves you may want to take in the future. Of course, researching the real estate market can also help you watch your home’s price.

Alternatively, if you want to track how your loan payments are going, you can view your amortization schedule or use an amortization calculator. Either is a valuable tool that can tell you where you currently are in your mortgage payments and where you will be in the future.

Assess the Market Before You Buy

Knowledge will always be one of your best shields against financial loss. It’s best to research and evaluate the market for an extended period before you buy a home.

You may want to look into the neighborhood surrounding your potential property as well as the greater local area. You want to ensure you buy in a location that won’t immediately drop in price after you make the purchase.

That is especially important if you intend to move again within a certain time frame.

A real estate agent can advise you on the current and predicted market conditions to help you make the choice best for you.

Refinance

Refinancing isn’t just an option for when you are already struggling to make payments. You know your financial situation better than anyone else.

If you think you may start to have trouble with your regular monthly installments but still retain some equity in your home, you may want to consider refinancing.

Even if you are not immediately at risk for an underwater loan, you may be considering the option to refinance your mortgage. Many borrowers may benefit from the chance to pay at a lower interest rate with more favorable terms.

Recommended: Guide to Buying, Selling, and Updating Your Home

The Takeaway

How to deal with an underwater house? First, denial or panic will not serve you well. The initial step most recommended is to call your lender early on to address your underwater mortgage. Then know your other options for contending with an upside-down loan.

If you would like to determine if you qualify for a lower rate and different terms by refinancing your home, consider applying for a refinance with SoFi. The application process is simple and all online.