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It's bad enough when the value of your house is sinking like a lead balloon. But for a growing number of Americans, their woes are compounded by owing more on the mortgage than what that house is now worth. It's called having negative equity—the opposite of what happens when a home appreciates and a homeowner builds positive equity above and beyond his initial investment.
In a new report released Mar. 4, more than 8.3 million U.S. mortgages, or 20% of all mortgaged properties, were saddled with negative equity at the end of 2008, according to LoanPerformance, a company that tracks mortgage data. That's up two percentage points, from 7.6 million borrowers, from the end of September 2008. California led the nation with a monthly average of 43,000 new negative-equity borrowers over the three-month period, followed by Texas (16,000), Nevada (15,000), Florida (14,000), and Virginia (14,000).
"Given that we've never seen house price declines of this magnitude, this is probably one of the highest negative-equity levels we've ever seen," said Mark Fleming, chief economist for First American CoreLogic, LoanPerformance's parent. "House price declines have taken hold everywhere."
The study is based on the data of some 45 million properties that carry a mortgage, which accounts for more than 85% of all U.S. mortgages. The data was filtered to include only properties valued between $70,000 and $1.25 million.
The most severe "underwater mortgages"—mortgage loans that are 125% or higher than the value of the property—are in five states: California (723,000), Florida (432,000), Nevada (170,000), Michigan (128,000), and Arizona (122,000). Underwater homes are of serious concern because for some homeowners there is little incentive not to walk away and allow the home to fall into foreclosure. Foreclosed homes drag down the prices of neighboring properties, possibly dragging more homes underwater.
A veteran real estate broker in Las Vegas who declined to be named said that in 2004 there were only 2,000 homes on the market; now there are some 20,000 and growing. "Everybody became crazy," she said. "In certain areas [home prices are] off 60% from the peak. It's really sad because there's no equity and people can't refinance."
The negative-equity conundrum appears poised to get worse. LoanPerformance calculates that there are another 2 million houses that are approaching the danger zone, that is, within 5% of being in a negative-equity position. Negative-equity and near-negative-equity mortgages combined account for a quarter of all homes with mortgages nationwide.
The distribution of negative equity is heavily skewed to a small number of states, according to Fleming. Nevada has the highest percentage of negative equity: More than half of all mortgage borrowers in that state are now upside down. The average loan-to-value ratio for properties with a mortgage in Nevada was 97%, or less than $8,000 in equity. That leaves the typical mortgaged homeowner with virtually no cushion for the rapidly declining home values.
In states where unemployment is high and rising, such as Michigan, the problem of upside-down mortgages is acute. "It's the combination of underwater and losing a job that is of most concern at this point," says Fleming. "If you're underwater but can still pay your mortgage, you're O.K. And if there's equity in the home and you lose a job, you can always refinance" to tap into that to make ends meet, providing a bank will approve a new loan.
Ranking the states by total number of borrowers underwater, California came in first with more than 1.9 million borrowers in negative equity, followed by Florida (1.3 million), Texas (497,000), Michigan (459,000), and Ohio (435,000). These five states account for more than half of these problem mortgages.
For states that haven't seen a widespread problem in declining prices and therefore upside-down mortgages, the worst may be in store. Fleming forecasts that the largest increases in the share of negative-equity mortgages will likely occur in states that have not yet experienced deep declines. "The worrisome issue is not just the severity of negative equity in the 'sand' states," Fleming said, "but the geographic broadening of negative equity that is expected to occur throughout the year."
Der Hovanesian is Banking editor for BusinessWeek in New York.