- Being upside down on your loan means you owe more money on your vehicle than it's currently worth.
- Refinancing can help you get out from under a negative equity car loan.
- When you trade in your car, you can roll any negative equity into the new loan.
- Strategies like a larger down payment and shopping your auto loan around can help protect against future upside-down auto loans.
Owing more money on your car than it's worth can be a tricky situation to be in. But there are solutions to help get you out of this predicament, like refinancing your loan or making additional payments. With a close look at your loan versus your vehicle’s value, along with careful planning and repayment strategies, you can get right side up on your car loan.
What Is an Upside-Down Car Loan?
When you owe more on your vehicle than it is currently worth, that is considered an upside-down car loan. For example, if you owe $20,000 on your car but it is currently only worth $18,000, then you have an upside-down loan.
Having a negative equity car loan like this can be problematic. If you trade in your car or total it, this negative equity may need to be rolled over into a new loan, putting you even further underwater, or upside down on your car loan.
How Do You Calculate Equity?
To figure out your equity, you need to know two things:
- How much money do you still owe on the car (loan balance).
- The value of your car in its current condition.
To figure out the first bit, look at your most recent loan statement. The value you are looking for is the loan payoff value. For the second bit, you can use a free tool like Kelly Blue Book® to get an estimation of your car’s value. Make sure to include specifics like mileage, vehicle condition, and trim for an accurate valuation.
Once you have both sets of information, subtract your remaining loan balance from the estimated value of your car. If the value is positive, you’re good. If the value is negative, then you have an upside-down car loan.
For example, if your car is currently worth $15,000 and your loan payoff is $18,000, then your equity is -$3,000, which means you are underwater on your loan.
What Are the Drawbacks of Having a Negative Equity Car Loan?
Having an upside-down car loan can leave you in a precarious position. What happens if you wreck your car? The insurance payout may only cover the value, which may not be enough to pay off your loan, leaving you without a car to drive and still indebted to your bank.
Selling a car with negative equity also comes with problems. A private party sale will leave you owing the bank additional money, and a new purchase at the dealership will require you to roll that negative equity into a new loan, likely putting you upside down once again.
Common Scenarios Leading to Upside-Down Loans
While ending up underwater on your car loan often occurs shortly after purchase, it can happen at any point during the loan's life. Here are some common scenarios.
- Small or no down payment - A down payment reduces the amount you need to borrow. Not having a down payment (or enough of one) may mean a higher loan value, which could lead to going upside down.
- Brand new or luxury - High-priced vehicles and luxury cars tend to depreciate faster, which could leave you underwater on your loan soon after purchase.[1]
- Long loan repayment period - Some lenders allow for terms of up to 84 months. While this may reduce your monthly payment, your car could depreciate faster than you pay, resulting in an upside-down loan.
- High interest rates - The higher your auto loan APR, the longer it may take you to pay down your principal, as most of your initial payments will go towards paying the interest.
How To Get Right Side Up on Your Car Loan
There are a few options for escaping your negative equity car loan situation. From waiting it out to outright selling your car, here are five strategies that could help you get right side up again.
1. Make Payments To Build Equity
Sometimes, it's just a waiting game. If your loan payments are outpacing future depreciation, then your loan may right itself in just a few months. Still, you may want to talk with your insurance company about getting gap insurance, which can help you pay off the upside-down loan if you total your car.
2. Refinance Your Loan
If the loan term or interest is the source of your negative equity situation, then an auto loan refinance may help you get back on track. With less interest owed, you’ll pay more towards the principal balance, and a shorter loan term can help you outpace depreciation.
3. Increase Your Payments
As an alternative to refinancing your loan, you can make additional monthly payments towards your principal, either one-time or recurring. Another strategy is to split your monthly payment into two smaller payments made every two weeks. Doing this will save you a little on interest and result in 13 full payments made each year.
Not only does making additional payments help get you right side up on your loan, but it can also allow you to pay off your loan early.
4. Sell the Car
Sometimes, the best option for escaping a negative equity car loan is to simply sell the car. Try to opt for a private party sale as you may often get a higher value; otherwise, if you want to get out of the loan faster, you may try selling to a dealership or other retailer.[2]
Once you have the proceeds from the sale in your hand, pay your lender. You’ll still owe the remaining balance on the loan, but with a lower loan value, you may owe less in interest each month, and you may be able to pay off the loan sooner.
5. Roll Over Negative Equity Into a New Loan
If you can’t afford to wait it out or pay more money and selling is not an option because you still need a car, consider trading in your current vehicle for a different one. The negative equity from your original loan will be rolled over into your new loan, but if you choose a cheaper car and/or one that depreciates slower, you may be able to get above water again on your car loan quickly.
As an example, let's say your original loan was $30,000, and the best trade-in value you are offered is $25,000. This leaves you with $5,000 in negative equity. If you then purchase a $15,000 car, that negative equity will be rolled into a new loan of $20,000. With this smaller loan value, you may be able to land a better APR, decrease your repayment period, and pay more toward your principal each month.
How To Avoid Going Upside Down on a Car Loan the Next Time You Buy
Going upside down on a car loan is not a great feeling. If you want to avoid the stress next time, here are some strategies you can consider.
- More money down - Having a larger down payment lets you take out a smaller loan with a shorter repayment period and could land you a better interest rate.
- Buying used versus new - New cars depreciate fast, which could leave you underwater on your loan before your first payment is due. A used car is often cheaper and may decrease in value at a slower pace, although this is dependent on make and model.
- Shop around for the best loan - Instead of waiting until you get to the dealership, try to get prequalified for a loan before you go. You may be able to land better loan terms, and you may have some negotiating power.
- Shorter loan repayment period - The shorter the repayment period on your loan, the less likely you are to end up underwater.
- Budget before you buy - Know how much you can realistically afford each month and set a maximum price you’re willing to pay. Don’t let a salesperson push you into a more expensive purchase that leaves you strapped for cash and underwater on the loan.
- Avoid dealer add-ons - All those little extras the car dealership “throws in” are added to your loan total. Things like extended warranties, high-priced factory accessories, and rustproofing or other protective coatings can increase your purchase price by several thousand dollars.[3]
Finding the Right Auto Loan
One way to protect yourself from ending up owing more than your car is worth is to find the best auto loan before you buy. However, if you already have a negative equity car loan, finding a new auto loan may still be a solid solution to help you get back on track.
A refinance loan with better terms, like a lower interest rate or shorter repayment period, may help you clear your negative equity fast. When searching for the right loan, look beyond just the terms and try to find a lender that helps you navigate the process of financing a car from initial pre-qualification through making your final payment.
Whether you're waiting for the loan balance to decrease, seeking a simple refinance, or aiming to transfer your negative equity into a new loan, having a solid strategy is the first crucial step in getting out from under your upside-down car loan.
Ready to take the next step in getting out from under your negative equity car loan? Apply for an auto loan refinance today.
