Lower Income Homeowners Face Negative Equity Forever

 

First came the news that last fall saw an uptick in negative equity.  Now Zillow has found that most low end homes, including those already underwater, are losing value, not gaining as one would expect with the tight supplies of entry-level properties.  Suddenly negative equity is no longer yesterday’s news.  Its a huge threat to the entry point for first time buyers.

Some homeowners will face negative equity forever unless demand improves.

Owners of homes at the bottom of the market are trapped underwater on their mortgages even as the real estate market continues to recover, according to the fourth quarter Negative Equity Report from Zillow.

“For the longest time, the housing market was working off its negative equity, and now we’ve seen a reversal,” said Svenja Gudell, Zillow’s senior director of economic research.

“There appears not to be as much demand for the lowest-tier homes,” Gudell said.

In the fourth quarter of 2014, the U.S. negative equity rate – the percentage of all homeowners with a mortgage that are underwater, owing more on their home than it is worth – stood at 16.9 percent, unchanged from the third quarter. Negative equity had fallen quarter-over-quarter for ten straight quarters, or two-and-a-half years, prior to flattening out between Q3 and Q4 of last year, Zoillow reported.

This represents a major turning point in the housing market. The days in which rapid and fairly uniform home value appreciation contributed to steep drops in negative equity are behind us, and a new normal has arrived. Negative equity, while it may still fall in fits and spurts, is decidedly here to stay, and will impact the market for years to come.

Negative Equity Forever

In fact, some homeowners trapped very deeply underwater may essentially be in negative equity forever. And those homeowners are much more likely to own America’s least expensive homes. Making matters worse, many homeowners in the bottom home value tiers are not only underwater, but very far underwater. Consider, for example, homeowners of the least expensive homes in the Detroit metro area. These homeowners are 29 times more likely to owe twice as much than their house is worth compared to a homeowner at the high end of the market. The following interactive graphic shows the loan-to-value distributions for homeowners across the three home value tiers for the largest 100 metro areas.

Negative equity is not an equal-opportunity predator, and looms larger over less expensive homes. Nationwide, 27.3 percent of homeowners with a mortgage in the bottom one-third of homes by value were underwater in the fourth quarter. The negative equity rate among top-tier homeowners was 9.1 percent. In some areas, this gap was even more distinct. In Atlanta, for example, 49 percent of homes in the bottom-third of home values are in negative equity, compared to 11 percent of mortgaged homes in the highest-valued third.

This flattening out of the negative equity rate comes even as home values overall continue to rise, albeit at a slower pace than in previous years. Rising home values generally contribute to negative equity declines. U.S. home values are expected to grow by about 3 percent this year, a healthy rate in most normal markets. But for homeowners that are, say, roughly 20 percent underwater, home value growth of 3 percent per year means it could take seven years or more to reach positive equity, assuming the homeowner only pays off the interest on their mortgage each month. For homeowners that owe 50 percent more than their home is worth or even double the amount their home is worth, home value appreciation alone will be insufficient to pull them into positive territory in the next ten years. Short sales and foreclosures seem to be the only option to clearing high negative equity from the books.

And even as home values rise, this rising tide isn’t lifting all boats. While home values overall may be up, many individual homes aren’t rising as quickly, or are even falling in value. And those homes most likely to be falling in value are generally located in the lowest tier of homes which are typically inexpensive, tract-built homes located far from urban centers.

Low Inventories for Millennials

This compounds the problem even further. We know that millions of current renters and younger millennials would like to buy in coming years, contributing to an overall upswing in demand for housing. But the very homes they’re most likely to buy – the kinds of farther-flung, inexpensive homes that attracted their older brothers and sisters a decade ago – are the exact homes most likely to be stuck in negative equity, and off the market.

As a result, it’s likely that in areas with high negative equity and low inventory of affordable homes for sale, competition will remain fierce for those homes that are available. This will contribute to localized bidding wars and price spikes that only serve to make these homes more unattainable for the kind of buyers that want and need them most.

While the market waits years for simple home value appreciation to help solve the problem, the only viable short and medium-term solution is for builders to step in and fill the void by constructing more lower-priced homes to help meet growing demand. Except thus far, builders have largely been unwilling to build these kinds of homes, instead focusing on the more profitable higher end of the scale.

Geographic Losers

Just as some markets fared worse in the downturn, there are clear geographic losers in the recovery. Negative equity is 16.9 percent nationally and rising in 21 of the top 50 housing markets, with more than a quarter of mortgaged homes underwater in parts of the Southeast and the Midwest.

In Atlanta, where homes values rose 12.2 percent last year, nearly half of borrowers with homes valued in the bottom third of the market are underwater. That compares with 10 percent of borrowers with the highest-valued homes.

These are the major markets with the greatest negative equity:

1	Las Vegas, NV	26.4 percent
2	Atlanta, GA	26.1 percent
3	Chicago, IL	25.1 percent
4	St. Louis, MO	22.8 percent
5	Cleveland, OH	21. 4 percent
6	Detroit, MI	21.3 percent
7	Tampa, FL	21.2 percent
8	Orlando, FL	20.9 percent
9	Kansas City, MO	20.9 percent
10	Phoenix, AZ	20.6 percent