The situation is only likely to get worse as repossessed homes are sold for less than their market value as lenders try to quickly clear the debt. This drives more downward pressure on house prices and raises more fears among homeowners about slipping into negative equity.
What is negative equity and how does it affect you?
Repossession orders are the final step taken by a lender before seizing a property. Crucially, negative equity is not a factor in repossession.
Negative equity means that the amount you owe on a mortgage actually outweighs the property’s value. This is a problem faced by an increasing number of homeowners as house prices slump and mortgage rates rise. According to Standard and Poor’s, the credit ratings agency, at least 70,000 homeowners already have mortgages that surpass the value of their home and one in six will fall into negative equity by the end of next year if house prices slump by just 17% - and many analysts have predicted a 20% drop by 2010.
This however, has no bearing on your ability to pay back your mortgage – negative equity is only an issue if you’re planning to sell, or are forced to sell, your property. It is not a problem if you’re able to meet your mortgage payments and in the long term house price growth and capital repayments should bring you out of negative equity. Instead, the trigger for payment problems is usually a change in circumstances, such as the loss of a job.
How can you prepare for the worst?
The Governor of the Bank of England, Mervyn King, acknowledged this week that the UK could slip into recession as he warned that economic growth would grind to a halt by the end of the year. While unemployment is still low by historic levels, it is rising at its fastest rate for 16 years.
Against this backdrop many people will be worrying about how they would cope financially, were they to lose their job. If you would struggle to meet your mortgage payments, mortgage payment protection insurance (MPPI) could provide vital peace of mind.
Payment protection insurance, which covers loan and credit card repayments, and MPPI have been the subject of lots of bad press due to misselling by certain providers. However, it can provide valuable protection.
An MPPI policy should cover your mortgage payments if you have an accident or become ill and cannot work – it will also cover you if you become unemployed. The insurance pays out for a defined benefit period and that will vary depending on what policy you choose. Obviously the longer you take out cover for, the more expensive the policy will be – but you can select the time period ahead of time, whether it be six months, one year, or more. Bear in mind however, that there is always an initial exclusion period at the start of a contract – usually 30 or 60 days – so you can’t take out MPPI because you expect to be made unemployed within the next couple of weeks. In fact, you wouldn’t be able to claim on an unemployment policy if there was a known threat of redundancy in your workplace when you took the policy out.
Most providers will cover your mortgage payment and normally a little extra for mortgage related bills such as pensions and insurances. Payments vary depending on your circumstances but a 26-year-old homeowner with mortgage payments at £700 a month could pick up cover for less than £6.50 a month. There are numerous providers on the market, including Helpucover.co.uk, iprotectinsurance.co.uk and getMY.com. However, as with any insurance product, its best to take an overview of the market to find the cheapest quote, which you can do with our MPPI comparison tool – moneysupermarket.com is the only comparison site to compare MPPI policies.
What if you’re already struggling?
While MPPI can offer protection against future problems, many homeowners are already struggling because of the state of the housing market and the impact the credit crunch has had on the mortgage market.
Worst affected are those who bought their property within the last few years and either took out a 100% mortgage or only had a small deposit. When house prices are booming this isn’t a problem as you soon build up equity in your home, but prices have fallen by an average of 8.8% over the past 12 months according to Halifax. Add the credit crunch into the mix and the fact that mortgage providers have become more cautious about who they will lend to, and life isn’t so rosy.
Many of those with little equity in their home are struggling to remortgage – all of the major lenders have pulled out of the 100% mortgage market and the number willing to lend up to 95% has also shrunk massively. However, if you do find yourself in this situation, the key thing is not to panic as there are still options available.
Look for ways to reduce your debt. This might mean making savings in other areas – such as by cutting back on some expenses or earning some extra cash, which you can then put towards your repayments. Some mortgages allow you to pay back as much as 10% - but even small reductions can significantly reduce your interest. You may also be able to add value, and therefore build up a bit of equity by making some home improvements.
Another option is to dip into savings, if you have any, or see if you can borrow money from a relative so that you have access to a larger deposit.
Although the mortgage market has been squeezed because of the credit crunch, there have been signs of improving conditions in recent weeks with many lenders cutting their rates. If you can scrape together a 10% deposit, HSBC has a two-year discount at 5.49% with a £999 fee. Those remortgaging receive a free valuation and free legal work. If you would prefer a longer term deal, First Direct has a lifetime tracker at 5.99%. The fee on this product is lower at £399, although it does not include a free valuation. You do get your legal fees paid though if you’re remortgaging.
There are still a few providers offering loans up to 95%, for those who can’t manage to put down a 10% deposit, although the rates are higher.
Halifax has a five-year tracker at 6.19% with a £1,249 fee, while Nationwide has a three-year tracker at 6.44%. Although the rate is higher than that on the Halifax deal, the fee is lower at £599, so it may work out to be better value depending on your loan size. The Halifax product includes a free valuation for remortgages, and Nationwide gives those remortgaging a free valuation, free legal work and three-months free accident, sickness and unemployment cover.
Have your say: Is the downturn in the housing market affecting you or are you struggling to get a mortgage? Visit our forum as other members may be able to help.
Disclaimer: Please note that any rates or deals mentioned in this article were available at the time of writing.