Forced house sales, negative equity and bankruptcy: will it happen to you?

Everyone with a mortgage is afraid of forced repossession of their property. With interest rates on the rise, and job stability a thing of the past, the possibility of losing your home may be a fear that is looming larger for you at the moment. So what is a forced sale and could it happen to you?

Forced house sales become more common when interest rates rise to such a degree that home owners regularly miss mortgage repayments. The situation is compounded by the fact that many borrowers took out loans at a time when interest rates were low and house prices were high, and so may have to stretch their finances to the limit to cover the repayments when rates rise.

Sudden interest rate rises or unexpected changes to personal circumstances can catch many borrowers out. If interest rates have risen, pushing people beyond their means, or the new financial situation means they can no longer cover their repayments, lenders may be forced to repossess the property and sell it to recoup their costs.

Forced to sell your home

As home owners are tighten their belts, many reach the conclusion that selling the family home before the bank repossesses it is the best choice open to them. Unfortunately, falling house prices can mean some home owners who find themselves in this situation will sell for less than they paid, pushing them into the negative equity trap.

Negative equity

When a house is bought during a time of high prices, it’s possible that a sharp fall in property prices can occur. If this fall is substantial enough it can result in a home owner owing more on their mortgage than their house is worth, leaving a shortfall that needs to be covered after the sale.

In 2003, Katherine and Hugh purchased a house on the outskirts of Melbourne. The property prices at the time were booming and interest rates were low, so the couple had no problems making repayments on their $320,000 mortgage. Three years later, after a number of interest rate rises, Katherine and Hugh were forced to sell their home and were shocked to discover that the three years down the track the house was valued at $280,000 although they still owed $310,000 on their mortgage. That meant when they sold their house there was a $30,000 gap –  money they would still owe to the bank after the sale.

Think you might be forced to sell?

The key in this situation is to act early, preferably before a forced sale is necessary. Get advice from your accountant or financial planner and consider going over your household budget with a professional. Also speak to your lender and try to negotiate alternative arrangements for repaying your loan. For loans of less than $320,000, hardship variations may be available under the Consumer Credit Code. If the situation is still not salvageable and you know the lender is going to make you sell get in first – try to make an arrangement with the lender that gives you as much time as possible to sell your house. This is especially important in a weak market as a quick sale often results in a lower sale price.

When you sell, there may still be a shortfall. Though the idea of paying this off over the next few years is unappealing it could be preferable to staying within a mortgage where your debt is rapidly escalating. It may also be a better option than declaring yourself bankrupt, although some people find themselves in this seemingly extreme circumstance.

Should I declare myself bankrupt?

If you’re heading for bankruptcy then get advice. The Insolvency and Trustee Service Australia, a Government body, might be able to help. See www.itsa.gov.au for more information. You may also be able to negotiate a debt agreement with the lender as a way to avoid a bankruptcy declaration. This is a more desirable option for most people.

To avoid bankruptcy, other options are to apply to the NSW Consumer Trader and Tenancy Tribunal or the Credit Division of the Victorian Civil and Administration Tribunal (or other relevant body in your state) to grant you an order that will oblige your lender to agree to your requested variations to the loan arrangement.

It’s also likely that you’ll find a larger lender, such as a bank, is more flexible than a non-bank lender. For some people re-financing may be the way out of a tight situation so consider shifting your loan to a bigger institution.

Above all, don’t give up. Keep negotiating and repaying as much as possible on your loan. You do have options but the key to surviving this extremely stressful is prompt and well-informed action so get the right advisors around you then put you plan into play. Good luck.

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