Can you refinance if your property reduces in value?

The property market is prone to change – and sometimes that involves drops in home values.

If you’re the owner of your ‘forever home’, this likely won’t be much of an issue. However, if you are a short term investor or are looking to refinance, you may experience difficulties.

Refinancing when you don’t have equity or your property’s value has decreased does present some challenges, but it’s not impossible.

How property value decreases affect property owners

Declines in property values can affect homeowners differently depending on individual circumstances.

1. Owner occupiers

If you are living in your ‘forever home’ that you don’t intend to sell, it’s likely that you won’t be impacted too much by decreasing housing values.

However, if you’ve purchased an entry-level home that you intend to sell soon and move into something pricier, your plans might be interrupted by a fall in your property’s value.

Additionally, if you want to get cash out, you may have troubles. Decreasing property values results in you having less equity in your home to tap into.

2. Investors

If your investment plans involve owning an investment property long term and enjoying the rental income, falling property prices may not have a significant impact on you.

However, short-term investors could find themselves not making the profit they had hoped to by selling their property.

Similarly to owner occupiers, refinancing your investment home loan can become more complicated if your property value declines.

Can you refinance if your house value goes down?

If your property’s value has dipped so much that your equity is less than 20%, you may experience some challenges when it comes to refinancing.

Refinancing when your Loan to Value Ratio (LVR) is above 80% (i.e. equity below 20%) is likely to incur Lenders Mortgage Insurance (LMI) charges. This can still apply even if you have previously paid LMI.

So in many cases, you will still be able to refinance if your house value goes down, but this won’t always be possible.

Refinancing to get cash out can become challenging and refinancing while you’re in negative equity can also be very difficult.

What is negative equity?

If the market value of your home drops below the value of your home loan balance, this means you are in negative equity.

For example, let’s say your home has dropped in value to $400,000, but your home loan balance is $450,000. This is what negative equity can look like.

Banks may be less willing to lend to borrowers in this situation as it comes with a lot of risk. Let’s say you have negative equity and also default on your loan repayments, your house no longer serves its purpose as collateral because it is worth less than the home loan.

Similarly, if you need to sell your home, negative equity presents a big problem – you’ll have to come up with the remaining money. If you don’t need to sell or refinance and are keeping on top of your mortgage repayments, it may not be a massive problem.

It’s uncommon for borrowers to experience negative equity as property prices tend to rise, rather than fall. However, it’s still important to be aware of the possibility and what to do.

How to reduce negative equity

There are three key things you can do when you suspect you have negative equity:

• Get a formal property valuation: equity is determined by subtracting the remaining loan amount from the up-to-date market value of the property. To know what your home is actually worth, it may be a good idea to get an independent valuation
• Make extra home loan repayments: making extra repayments will reduce your mortgage so that you can start tipping the LVR scales in your favour
• Increase your property value: it’s easier said than done but if you’re able to increase your home’s value, your equity will increase too.

How to increase the value of your property

Having higher home equity expands your refinancing options. A good way to increase equity is to increase your property’s value which could be simpler than you think. Here are some ways to increase the value of your property:

1. Refresh the kitchen and bathroom: renovating your kitchen and bathroom(s) if necessary is a great way to breathe new life into your home. If a full renovation is out of the question (or out of the budget), you can make some simple, yet effective changes. Consider replacing the tapware, updating appliances, repainting cabinets, installing a new kitchen backsplash or installing water-efficient showerheads in the bathroom.
2. Update lighting: no one wants to live in a home with poor or unflattering lighting. Re-doing your lighting can highlight the beauty of your home and you can consider replacing your light bulbs with energy efficient LED ones to save money in the long term.
3. Landscaping: making your front and backyards a more pleasant place to be can boost your property’s value. To keep it low maintenance, opt for simple landscaping and plants that require minimal care.
4. Curb appeal: curb appeal is what entices passersby and what gets future buyers in the door. To enhance your curb appeal, you can improve your front garden with some greenery, replace your front door or repaint it in a fun colour, or install front fencing.
5. Add an extra bedroom: having more bedrooms can increase the value of your home. If it makes sense for your financial situation, extend your home and add a bedroom, office or additional living space.
6. Build a granny flat: a granny flat is a big initial investment, but it can increase your property’s value and introduce a potential revenue stream. You could rent out the granny flat which gives you more money to put towards your home loan or other investments.

The difficult thing about attempting to increase equity and property value through renovations and home improvements is that it can require significant capital. And, if your equity is low – you might not be able to tap into it to help fund your projects.

So, to make your home improvements a reality, you may have to go the DIY route or find alternative ways to fund your project.

How to refinance if your home has dropped in value

Now that we’ve established how property value declines impact homeowners differently and how this can affect refinancing, let’s look at some tips for refinancing:

1. Learn your property’s value: getting an accurate valuation tells you more about what your refinancing options could be. You can organise one independently or wait for the lender you approach for refinancing to organise one.
2. Establish why you want to refinance: your reason for refinancing will affect your ability to do so. Getting cash out may be difficult if your property has dropped in value, but you may be able to refinance for other purposes (e.g. debt consolidation, to switch between fixed and variable rates etc.).
3. Speak to a lender: figure out if refinancing is even an option by speaking directly to the lender you wish to refinance with. You may still be able to refinance if you are not in negative equity.
4. Speak to a mortgage broker: get an expert’s opinion on your refinancing options by speaking to a Home Loan Specialist. They’ll be able to tell you whether your refinancing goals are a possibility or whether it’s better to focus on increasing your home equity.

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The information in this post is general in nature and should not be considered personal or financial advice. You should always seek professional advice or assistance before making any financial decisions.