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Shrinking net worth
Negative equity is rampant. We focus on one couple's predicament and solicit advice from three financial planners.
Growing your bottom line

What to do if you're upside down in your home

It doesn't seem like you're getting ahead if the values of both your home and portfolio are going backward.

The stock market has certainly tested the mettle of Americans in the last 15 months. Declining home values are even tougher to take. Some 16 percent of American households -- one out of six -- are underwater, according to Moody's economy.com. Among those who bought a home in the last five years, nearly a third (29 percent) owe more on their homes than they are worth, according to Zillow.com.

Having negative equity is like walking on a treadmill with an injured knee. You don't get anywhere, and it's painful. If you're lucky enough to be financially solvent, that puts you in the enviable position of being able to make the house payments, even though it feels like you're throwing hard-earned money into an abyss.

Below, we look at the predicament of a typical family. The "Smiths" are making payments on a house that lost one-third of its value over the past three years. We then ask three Certified Financial Planners for solutions, which they provide in their own words.

Negative equity options
Mari Adam, CFP, MBA, CRPC
Adam Financial Associates
Boca Raton, Fla.

John and Sandy have what is becoming a very common problem in our area -- negative equity in their real estate. This is really a time to keep your head screwed on straight and think rationally through the options. Otherwise you can get yourself in big trouble.

This does not mean that they are insolvent (e.g., they are not in the same category as people facing foreclosure), but it does limit their real estate options.

Their goal is to upgrade to a larger, more family-friendly property. Depending on their personal circumstances, they'll have a few different options.

1. They can stay in the unit and not upgrade. This is the easiest solution but comes at the price of not achieving their goals. They have an adjustable mortgage, but the rate is reasonable and it does not adjust for a few more years. That gives them time to save more money, pay down the mortgage, and wait for the real estate market to improve.

2. Try to sell the unit and move. This will be hard because they cannot do a short sale (it would damage their credit and prevent them from buying again). So, if they sell, they need to pay off their mortgage. This may involve a bigger loss than they can afford.

3. Rent the unit -- probably the best choice. They can rent until the sales market improves. Hopefully, they will have enough cash to put down on a new house and can qualify for a second mortgage. This would help them achieve their goals and take advantage of today's much more reasonable prices to buy.

(Editor's note: This is not an option for John and Sandy because of homeowners' association restrictions.)

I agree with John -- it would not be a good idea to buy a second condo. This does nothing to get them closer to their goals, and condos are the weakest link in the chain.

They should sit down and review the terms of their adjustable mortgage right away. When I ask clients what exactly their mortgage terms are, few know. You cannot make good decisions without knowing this info cold. When does it adjust, how much can it adjust, what is the benchmark, where do I find that info, and how much would it be if it adjusted today?

The bad news is: The real estate situation is very tough for many people. The good news is: There are huge opportunities out there if you have some financial flexibility and good credit. Let's hope John and Sandy can take advantage of today's prices to buy the house they now need!

  What's your experience with investing?
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-- Posted: Oct. 27, 2008
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