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 underwater mortgage refinance

Do you owe more on your mortgage loan than what your home is worth? You’re not alone. In the third quarter of 2013 6.4 million homeowners were similarly underwater on their homes. That comes out to 13 percent of all residential properties with a mortgage.

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The good news? This number is steadily falling as home values slowly rise across the country. The total number of homes with negative equity dropped by 791,000 in the third quarter.

If you’re underwater, though, this good news provides little comfort. No homeowner wants to be underwater. It can be difficult if not impossible to earn a profit when trying to sell an underwater home. Few buyers will spend more than $200,000 on your home if that’s all it’s worth today. These buyers don’t care that you owe $250,000 on a mortgage loan that you took out six years ago.

Related Article: Is the American Dream Still Alive?

What can you do if you owe more on your mortgage loan than what your house is worth? You have several options, though not all of them are particularly pleasant.

Stay Put

The best choice is to stay put. You can’t lose money on an underwater sale if you don’t sell your home. This is a good choice if you like your home and your neighborhood.

Unfortunately, life has a way of changing this plan. Maybe you or your spouse needs to move because of a job relocation. Maybe you’re going through a divorce and you have to sell your home. In such cases, you might be stuck with a loss if your home’s value hasn’t rebounded by the time you need to move.

Refinance

If your home is underwater, refinancing won’t help you sell if for enough money to bring in a profit. But refinancing can bring some relief in the form of a lower interest rate and a lower monthly payment, something that might help erase the sting of being underwater.

The problem? Most mortgage lenders require that you have at least 20 percent equity in your home before they’ll approve you for a refinance. That won’t be the case if you’re underwater; instead you’ll have negative equity. The federal government, though, does offer its Home Affordable Refinance Program, better known as HARP. Under this program, lenders are given financial incentives to refinance the home loans of owners who owe more on their loans than what their homes are worth.

Related: Do I Qualify for HARP?

You will have to meet certain requirements to participate in HARP. Your mortgage loan must be owned or guaranteed by Freddie Mac or Fannie Mae and you must be current on your mortgage payments. You also can’t have missed any payments during the past 12 months. And even if you do meet these requirements, lenders don’t have to approve you for a HARP refinance. If your credit score is low or your income is not high enough, you might struggle to convince a lender to refinance your home even through HARP.

Short Sale

If you absolutely need to sell your home even if you’re underwater, you might be able to convince your lender to approve a short sale. In a short sale, your mortgage lender agrees to let you sell your home for less than what you owe. In such a sale, you can price your home more aggressively to move it quicker. Say your home is worth $150,000 but you owe $180,000 on your mortgage loan. Instead of hoping for a buyer willing to pay that $180,000, you can sell your home for $150,000 or $140,000. Your lender would take the loss.

Short sales can be challenging, though. Your lender must approve any offer you receive, even if you think the offer is good. If your lender rejects an offer, your sale will fall through. Some lenders won’t even consider a short sale. A short sale will also cause your credit score to fall.

Strategic Default

Some homeowners, convinced that their homes’ values will never recover, simply walk away from their homes. They stop making their monthly mortgage payments even if they can afford them. This is known as strategic default. Some argue that this is unethical. Others say that owners shouldn’t be expected to keep making payments on what has become a bad investment. Know, though, that walking away from your mortgage will send your credit score plummeting. And when you eventually fall into foreclosure — the end result of a strategic default — this negative judgment will remain on your credit report for seven years.

Related Article: How to Avoid Foreclosure in 3 Easy Steps

Update: SmartAsset can help you with more than just your mortgage-related questions. So many people reached out to us looking for tax and long-term financial planning help, we started our own matching service to help you find a financial advisor. The SmartAdvisor matching tool can help you find a person to work with to meet your needs. First you’ll answer a series of questions about your situation and your goals. Then the program will narrow down your options to three fiduciaries who suit your needs. You can then read their profiles to learn more about them, interview them on the phone or in person and choose who to work with in the future. This allows you to find a good fit while the program does much of the hard work for you.

Photo Credit: donita9

Dan Rafter Dan Rafter has been writing about personal finance for more than 15 years. He is an expert in mortgages, refinances and credit issues. Dan's written for the Washington Post, Chicago Tribune, Phoenix Magazine, Consumers Digest, Business 2.0 Magazine, BusinessWeek online and dozens of trade magazines.
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