7.5 million homeowners 'underwater'

At least 7.5 million Americans owe more on their mortgages than their homes are currently worth, according to a real estate research firm's report released Friday.

In other words: If they sold their homes today, they'd have to bring a check to the closing. Ouch.

Another 2.1 million people stand right on the brink, according to the report by First American CoreLogic. Their homes are worth less than 5% more than the mortgages they're paying on them.

The technical term for this phenomenon is negative equity; more colloquially, these borrowers are often referred to as being "underwater."

"Being underwater leaves homeowners vulnerable to foreclosure," said Mark Fleming, CoreLogic's chief economist.

That's because these borrowers are left with no home equity to tap - via refinancing or a home equity loan - if they run into financial trouble. Negative equity has contributed much to the soaring increase in foreclosures over the past year.

The report on the growing problem of negative equity is a conservative estimate. Some organizations, including Moody's Economy.com, estimate that as many as 12 million borrowers may be underwater.

"Being underwater doesn't necessarily mean that you can't pay your bills," said Fleming, "but it's a necessary condition of default."

Borrowers who are underwater but have enough income to pay bills can keep up with their mortgages - even if they don't like paying more to live in a home than it's currently worth. On the other hand, anyone who runs into trouble paying their bills but has positive equity in their home can avoid foreclosure by either borrowing against their home or simply selling it.
Hardest hit

Nevada, where home values plunged by more than 30% during the past 12 months, according to the latest home price report from S&P Case-Shiller, tops the list of states with the highest numbers of underwater borrowers. A full 48% of homeowners there have negative equity.

Home values in Nevada and some other states rose particularly high during the real estate bubble - and are now plummeting. So even those who put 20% down when they bought their home don't stand a chance.

In many bubble markets, home prices got so high that the only way that many buyers could get a loan was by using what Fleming called "affordability products." These included adjustable rate mortgages with rates that were set artificially low for a few years, until resetting much higher, as well as mortgages that required little or no down payments.

These loans left buyers with little equity to begin with, and when prices dipped, they quickly found themselves underwater.

Other bubble states with high levels of negative equity include Arizona (29.2%), Florida (29.2%) and California (27.4%).

The second group of states that have a lot of underwater borrowers are in the rust belt region, including Michigan, where 39% of homeowners have negative equity, and Ohio, where that rate stands at 22%.

These regions are in trouble because of severe economic reversals and large-scale job losses, rather than inflated home values. And now prices have fallen far enough to put many borrowers in negative territory. Some of them may have already tapped their equity to tide them over in hard times, and have little cushion left.

The third group of states where many borrowers owe more on their homes than they are worth are in trouble mainly because, according to Fleming, they've experienced a large influx of immigration.

Newcomers in states like Texas (16.5%), Georgia (23.2%), Arkansas (16.3%), and Tennessee (15%) bought homes recently and simply didn't have much time to build up equity before prices started to fall he says.

The markets with the fewest underwater borrowers include New York, where only 4.4% of homeowners have negative equity, as well as Hawaii ( 5.6%), Pennsylvania (5.7%) and Montana (6.9%).