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Negative equity will haunt us for years

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We’ll all be staying put as negative equity puts the frighteners on Britain’s 11 million mortgage borrowers.

How wealthy do you feel today? Comfortable but not flush? Struggling and slashing your outgoings? Or with few savings and worried your house is falling in value?

Since the late 1990s, for many people the perception of how wealthy they feel has been tied up with the value of their house.

But negative equity – owing more on a mortgage than your house is worth – is back to haunt us. It last hit in the recession of the early 1990s.

The Council of Mortgage Lenders (CML) (www.cml.org.uk) believes that there are currently 900,000 mortgage holders in the UK in negative equity, and a further 1.1 million who have little equity in their homes. Similarly, the Financial Services Authority (FSA) (www.fsa.gov.uk) believes that up to 2.5 million people will be in negative equity by March 2010.

However, that isn’t the worst prediction. Research company GfK NOP (www.gfknop.com) believes that 3.8 million borrowers are either in, or close to being in negative equity, and a further 1.2 million will move into the danger zone this year. That's 5 million mortgage borrowers.

Negative equity is rearing its head as from a peak in August 2007, house prices in the UK have been falling steadily. The current annual rate of decrease is 17% according to Brtain's biggest building society Nationwide (www.nationwide.co.uk). It's the pace of these falls that are pushing people into negative territory.

How did it happen?

But it's not just house prices falling that are to blame. Another problem is during the good times, many Brits treated their home like a virtual cash machine; we could spend on credit cards, loans and overdrafts, which were then easily converted into extra mortgage debt. House prices were rising so quickly and sharply that it didn’t worry us.

But, we were spending on the basis of the perceived value of our homes. Now that the property market is in freefall, anyone who has been withdrawing equity from their home is likely to find they have less flexibility to juggle their finances.

The CML housing equity report last week found that negative equity is spread across borrowers of all ages, not just first-time buyers, but movers and remortgage customers, too.

During the last recession in the early 1990s, the lion’s share of negative equity was among young first-time buyers. This time it’s spread around much more evenly. Can it really be a coincidence that our willingness to go on a mass spending spree (funded by the equity in our homes) came at the same time as steep house price rises?

Now the two things have hit us together: falling house prices and our own spending habits during the good years have eroded our equity. So that means that we have less scope to use our equity to solve our problems by remortgaging onto a better deal or trading down.

So, just how bad could negative equity become?

Well, while the CML suggests that 900,000 of the UK’s 11.7 million mortgage owners are currently in negative equity, its research also suggests the following:

• There are a further 600,000 UK mortgage holders who have less than 5% equity in their homes
• There are a further 500,000 UK mortgage holders who have between 5%-10% equity in their homes.

In total, then there are around 2 million mortgage borrowers who could not raise a 10% deposit from their equity if they were to sell their house.

Even taking into account the fact that there are some high loan-to-value mortgages and remortgages available in the market, and these mortgage holders may have savings they could use, it could still have a significant effect on the housing market.

“The most likely result of negative equity today, as in the 1990s, is that it will contribute to a protracted dampening effect on transaction numbers,” concluded the CML’s report.

But while those in the danger zone are only around 15% of the total, that hasn’t stopped fear gripping many homeowners. A quarter of all UK mortgage holders are worried about negative equity according to a recent survey by FairInvestment.co.uk.

Its survey among 2,000 people found that 11% of those worried were particularly concerned as they had bought their home at the height of the property boom, and so were more susceptible to property value falls.

But maybe there's hope yet?

Despite falling house prices, owner-occupiers still have total housing wealth of about £3.2trillion according to the CML. Households owning their properties outright have equity of about £1.4trillion of that figure.

However, we shall see if lenders are much more open to helping people in negative equity this time around. It's been promised but the anecdotal evidence is yet to mount up. Halifax (www.halifax.co.uk) and Bank of Scotland (www.bankofscotland.co.uk) though, have started to help their customers in negative equity with remortgages worth up to 120% of the property value.

Furthermore, negative equity, the CML is keen to tell us, is not related to problems paying the mortgage. The only time it really becomes a problem is when a homeowner has to move for reasons such as family or employment.

Just yesterday in his Budget speech, Chancellor Alistair Darling said: “We have ensured that the banks will increase mortgage availability by £20billion this year.”

The government also launched its Homeowner Mortgage Support scheme earlier this week – which allows mortgage holders in difficulty to defer some of their mortgage payments to a later date, and it seems it will apply to those in negative equity too.

So, we shall see whether lenders are able to suggest an alternative option in the coming months for people who really do need to move, but are in negative equity.

Ask our expert: How do I know if I'm in negative equity? >>>

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