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What is negative equity and what can you do about it?

Woman cringing at her home loan because she has negative equity.

With each repayment you make on your home loan, your home equity goes up until eventually you’ll own your property outright. But your equity can also go negative in some cases, and this can have a big impact on your finances if you get into trouble and decide to sell.

So let's unpack the problem. What is negative equity? And what can you do about it?

What is home equity?

Put simply, home equity is the value of a property minus any outstanding debts attached to it, such as a home loan. The amount of equity you have will change over time as the value of your home goes up and the amount you owe to the bank goes down. 

To calculate your equity, use the following formula:

Equity ($) = Market value - outstanding debt

Example: Nathan takes out a $450,000 loan to purchase a $500,000 home. Two years into the mortgage, Nathan has made $20,000 in repayments, meaning he still owes $430,000. Assuming property prices have not changed, Nathan will have $70,000 in (positive) equity.

What is negative equity?

House falling into negative equity.

If you owe your home loan lender more than your home is currently worth, this is known as having negative equity. Selling your home would give you less than what you originally paid for it, and you would have to pay out of pocket to discharge the mortgage

This can especially be a problem during distressed home sales, when a homeowner has to sell because they can no longer afford their mortgage. Not only will their home sale not cover the value of the home loan they're trying to get rid of, but they will be on the hook for more money they simply don't have. 

Example: Mary owes $360,000 on a property she had bought for $400,000. But the market nosedives, leaving her home worth just $340,000. In this scenario, Mary’s equity would be negative $20,000. 

Assuming the value of Mary’s other assets (for example, her car and savings) are less than $20,000, then her net worth will be negative too. That is, she will owe more than the total value of her assets.

What causes negative equity?

Since property prices tend to rise over time in Australia, most people won’t have to worry about negative equity. But there are a handful of occasions where the amount you owe your lender can wind up eclipsing the current value of your home.

These are some common reasons you can wind up with negative equity:

  • You bought at the top of the property cycle and prices have subsequently fallen.
  • You overpaid for a property and not enough time has passed for home equity to build up.
  • You bought with a low deposit and the market has dipped slightly.

When is negative equity a problem?

Negative equity is mainly a problem if you plan to put your property on the market. That’s because when you sell a home with a mortgage, the proceeds of the sale are used to pay off your remaining debt. 

If the amount you receive isn’t enough to cover the debt, you’ll have to make up the difference some other way, such as by dipping into your savings or selling other assets.

If you can’t come up with the necessary funds to discharge your mortgage, your bank might be forced to get their mortgage insurer involved. The insurer will pay out the shortfall to your bank before setting out to retrieve the amount you owe, which can be quite a messy process.

Having negative equity can also make it difficult to refinance, which can be particularly frustrating if the home loan interest rate you’re currently paying isn’t all that competitive.

How to prevent negative equity

House bouncing back from negative equity.

Purchasing a home with a larger home loan deposit is a good way to keep your home equity from dipping into negative territory. 

Lenders recommend paying at least 20% of the property price as a downpayment, as it shows you’re capable of setting aside money regularly and reduces your risk profile in their eyes.

If you can come up with a deposit of that size or larger (some loans even require 40% deposits), it can also act as a buffer in case of any price falls because it gives you higher home equity from the start. 

You should also make sure you don’t fall behind on your mortgage repayments. Home equity increases as you pay down your loan, so it’s important to pay both the principal and the interest and only take a repayment holiday if you absolutely need to.

How to increase your home equity

Having negative equity can take a lot of the wind out of your sails, but the problem will usually resolve itself as the market improves and you continue to make repayments on your home loan.

If you want to speed things up, here are a few things you can do to increase your home equity:

These can all get you proactive about your home equity -- and the ways you can use it. 

Did you know your home equity could help you get a lower interest rate? Compare low rate home loans in the table below. 

Compare low rate home loans - last updated 3 March 2024

Search promoted home loans below or do a full Mozo database search. Advertiser disclosure
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Niko Iliakis
Niko Iliakis
Money writer

Niko has three years experience as a finance journalist. He specialises in home loans, business loans and interest rate movements at Mozo.

Evlin DuBose
Evlin DuBose
RG146
Senior Money Writer

Evlin, RG146 Generic Knowledge certified and a UTS Communications graduate, is a leading voice in finance news. As Mozo's go-to writer for RBA and interest rates, her work regularly features in Google's Top Stories and major publications like News.com.au.

* WARNING: This comparison rate applies only to the example or examples given. Different amounts and terms will result in different comparison rates. Costs such as redraw fees or early repayment fees, and cost savings such as fee waivers, are not included in the comparison rate but may influence the cost of the loan. The comparison rate displayed is for a secured loan with monthly principal and interest repayments for $150,000 over 25 years.

** Initial monthly repayment figures are estimates only, based on the advertised rate. You can change the loan amount and term in the input boxes at the top of this table. Rates, fees and charges and therefore the total cost of the loan may vary depending on your loan amount, loan term, and credit history. Actual repayments will depend on your individual circumstances and interest rate changes.

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