What it is:
Negative equity occurs when liabilities exceed the value of assets.
How it works (Example):
For example, let's assume that Company XYZ has $20 million of total assets and $40 million of total liabilities. Company XYZ has negative equity equal to $40 million - $20 million = $20 million.
Why it Matters:
When assets fall in value or companies take on too much debt, negative equity can often be the result. Years of losses can also create negative equity, because those losses are carried over to the retained earnings portion of the balance sheet.
The concept of negative equity applies to individuals as much as it applies to companies. For example, homeowners whose houses lose value often find them selves with negative equity in their homes; that is, they owe more to the bank than the house is worth.