When the outstanding loan balance exceeds the current market value of the home.
An underwater mortgage (also called "negative equity") occurs when you owe more on your mortgage than your home is currently worth. For example, if you owe $250,000 on a home appraised at $200,000, you're $50,000 underwater. Underwater mortgages became common during the 2008 financial crisis when home values collapsed. Being underwater makes refinancing difficult (lenders won't refinance properties below water) and creates financial stress. Selling underwater means paying out of pocket to cover the shortfall. However, over time, as you pay down principal and/or home values recover, you build equity and escape negative equity. Underwater mortgages don't mean you can't make regular payments; they're problematic mainly if you may want to sell or refinance urgently. Strategic defaults (refusing to pay despite ability to) became controversial during the crisis; most experts recommend continuing payments to protect credit.