How To Avoid Negative Equity

Most people have heard the term negative equity applied to either a house or a vehicle.  The idea is the same for either a house or a vehicle.  The cause may be a little different.  We will discuss both below.

To put it simply, negative equity is when you owe more than the house is worth.  If you own your house without a mortgage on it, you can't have negative equity - no matter how low the market price goes.  The complicated part is figuring out how to avoid it. 

One of the most effective ways to avoid negative equity is to make your purchase with a substantial down payment in cash.  If your loan amount from the beginning is considerably less than the purchase price, then you have that cushion of equity to protect you.  The major difference between a car and a house is appreciation.  As soon as you buy a car, it begins depreciating.  It will never be worth as much as you bought it for.  With that in mind, your best bet is to choose the loan with the shortest time period possible.  The sooner you make substantial payments to pay down the loan, the less likely you will have negative equity in the vehicle. 

Houses are a little different.  Most people expect a house to appreciate slowly.  That means that as you pay your mortgage down, and your house is appreciating slowly, you are building more and more equity in your house.  Unfortunately, the housing market doesn't always appreciate.  When home prices in your area are dropping, it can cause you to have negative equity.  You can't control the housing market, but you can control your end of it. 

Again, the bigger the down payment on your house, the less likely you'll have negative equity.   

But if you get a loan to the maximum value of your house, and the market drops, you will have negative equity.  The best way to fix that is to pay as much on your mortgage as possible every month.  The extra money should all go to the principle and start reducing that negative equity.  If the market starts rising again, it can also help to lower your negative equity.  But as noted before, you can't control the market.  So it's best to control your end of things. 

One of the problems with negative equity is that it can cause major problems if you need to sell the house or the car.  If you owe more than you can sell it for, the bank or mortgage company will want you to come up with the difference.  That's why it's always better to pay down your loan quickly to avoid being caught in a negative equity situation.   Many people have found they needed to move, maybe for a job, and discovered that they will owe money if they try to sell the house.  This can destroy career plans, or seriously put a crimp in your financial picture. 

Try to purchase both houses and cars with at least some down.  If at all possible, put extra money each month on the payments to get the principle lowered as quickly as possible.  That way, if something comes up, you won't be limited by that negative equity.


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