It’s no secret that home prices have declined in many U.S. cities and towns. Indeed, median prices dropped in nearly half of the country’s major metropolitan areas in the fourth quarter of 2007 compared with the fourth quarter of 2006, according to the National Association of REALTORS®.
If the value of your home has declined, you may owe more on your mortgage than your home is worth. In real estate-speak, this position is often referred to as being "upside down."
Being upside down may sound frightening, but could be of little immediate consequence if you can afford your mortgage payments and don’t want to sell your home or refinance an existing home loan. You’ve suffered a loss on your investment, but that loss is only on paper.
On the other hand, being upside down can represent a real concern if you want to refinance or sell your home. You likely won’t be able to refinance without equity, and you may need to come up with cash to pay off your mortgage if you sell.
The risk of being upside-down may give you pause if you want to buy a home as well. Fortunately, there are a few strategies that can reduce your risk. Here are four to consider:
1. Don’t overpay. Before you make an offer to buy a home, educate yourself about home prices and rents in your local area. Consult a REALTOR® and do some research on the web at a minimum. If you had to move and your home could be rented out for enough money to pay your costs of ownership, that could be a workable back-up plan.
2. Make a down payment. An initial equity cushion of, say, 10, 15 or 20 percent of the value of the home you want to buy could protect you from becoming upside down even if the value of your home declined.
3. Understand your mortgage. If you get an adjustable-rate loan, make sure you feel comfortable with the highest possible interest rate and payment. Also be aware that if you choose a payment option-ARM and make only minimum payments, the amount you owe could increase over time. That would raise your risk of being upside down.
4. Plan to stay put. Historically, home prices have risen and fallen in cycles over long periods of time. If you are upside down now, but plan to stay in your home for a long time, you might be able to ride out a downturn until you are right side up again.
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