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7 options for the 'under-equitied'

 

Rising home values during the past year have pushed more homeowners above water, but CoreLogic, a data analytics provider, says that 21.1 percent of all homeowners with a mortgage were what they call "under-equitied" during the second quarter of 2013: having less than 20 percent home equity.

Twenty-percent home equity is required to finance or refinance a home without paying private mortgage insurance, and if you're selling, that equity position helps deflect the costs associated with selling your home.

If you don't need to sell or refinance right away, "just sit tight" because rising home values in most markets will quickly add to your home equity, says Joseph Adkins, founder and CEO of Global Asset Management Group in Longwood, Fl.

3 ways to sell with low equity

Here are three things you can do if you're selling an under-equitied home:

No. 1: Rent it

If you're in a rush to move, Adkins recommends renting your property for a year or so until your current home value rises.

"Before you decide to rent your property you need to get an idea of your cash flow," says Tammy Trenholm, a broker with Redfin real estate company in Atlanta. "You'll need to estimate the rent and your other costs such as homeowner association dues and maintenance. You also have to pay your own rent or mortgage wherever you move."

No. 2: Home improvements

If you choose to sell, an experienced Realtor can help you get the most for your home with inexpensive home improvements and expert marketing techniques to offset your low equity.

No.3: Negotiate the commission

Adkins estimates that the cost of selling a home is approximately 8 to 10 percent of the sales price depending on the commission you pay to a Realtor and closing costs. While it's common to pay 6 percent in real estate commissions, some Realtors will negotiate a lower fee.

"You can save the commission by selling it yourself, but you could end up mispricing it and losing out on money or getting into legal trouble if you don't have professional advice," says Adkins. "You have to pay the commission to your buyer's agent even if you sell it yourself."

If your equity's too low you may have to bring money to the settlement to pay off your loan in full along with the closing costs. Trenholm says some lenders may negotiate a short sale if you can prove you won't have the money to pay off your mortgage and the closing costs.

4 ways to refinance with low equity

If you want to stay in your home, a refinance may be possible even with thin equity.

No. 1: Understand your options

You'll need 10 percent home equity for a jumbo-loan refinance, 5 percent for conventional, 4 percent for FHA and zero for VA, says Russ Anderson, a centralized sales executive for Bank of America in Los Angeles.

Lenders' guidelines vary and some have stricter qualifications.

No. 2: HARP

"I highly recommend going to your current mortgage servicer to see if you qualify for a HARP (Home Affordable Refinance Program) loan because that's the best solution for homeowners who have low equity," says Anderson.

No. 3: Cash-in refinance

Another option is "cash-in" refinancing, when you bring cash to the closing table to improve your equity position. But Anderson says a cash-in refinance makes sense if you want to pay down your balance or reduce your loan term to eliminate your mortgage faster, but isn't necessarily the best choice if your only goal is lower payments.

"That cash becomes a sunk cost if home values rise soon, too, because you might have just been able to wait for your equity to rise," says Anderson.

No. 4: Prepay

Another option is to prepay your mortgage. Prepayment can be used as a substitute or accompaniment to refinancing. Adkins doesn't recommend prepaying your mortgage without refinancing if your goal is simply lower payments.

"Your lender will keep that $1,000 [your prepayment] for the life of the loan and you can't get it back in an emergency," he says. "It's much smarter to take that extra cash and invest it and earn interest on it. The impact of compound interest is huge, so after five years or so you'll have a lot more to show for that $1,000 than if you paid down your mortgage. Once you've accumulated more cash you can pay off a lump sum."

About the author:

Michele LernerMichele Lerner, author of "HOMEBUYING: Tough Times, First Time, Any Time", has been writing about personal finance and real estate for more than two decades for a variety of publications and websites including The Washington Post, The Motley Fool, Investopedia, Insurance.com, HSH.com, SavingsAccount.com, National Real Estate Investor magazine, The Washington Times, Urban Land magazine, NAREIT's REIT magazine and numerous Realtor associations.