How to Get Out From Under a Car Loan

A car loan can become a significant financial burden due to high monthly payments, negative equity where the amount owed exceeds the vehicle’s value, or an unmanageable interest rate. These situations create financial strain and limit a person’s flexibility. This article explores various actionable strategies designed to address these challenges and help individuals navigate their car loan obligations.

Selling Your Vehicle

Selling your vehicle offers a direct path to eliminating a car loan, though it requires careful planning. First, determine the car’s market value using reputable online valuation tools such as Kelley Blue Book or Edmunds. These tools provide estimates based on factors like the vehicle’s make, model, year, mileage, and condition. Next, contact your current lender to obtain the precise loan payoff amount, including any per diem interest.

When selling a car with an outstanding loan, several options are available. A private sale typically yields a higher price than a trade-in at a dealership, but it involves more steps. In a private sale, the buyer can directly pay the lender the payoff amount. If the sale price exceeds the loan balance, you receive the difference.

If there is negative equity, meaning the loan balance is higher than the sale price, you will need to pay the lender the difference out-of-pocket to release the lien. This lien is a legal claim on the vehicle by the lender that must be satisfied for the title to be transferred.

Selling or trading in your vehicle at a dealership can simplify the process, as the dealership often handles the existing loan payoff directly. Dealerships typically deduct the payoff amount from the trade-in value or purchase price. If your vehicle has negative equity, the dealership might offer to roll that amount into a new car loan, increasing the principal of the new loan. This transfers the original debt rather than eliminating it, potentially leading to higher payments or a longer loan term on the new vehicle. After the sale, ensure you receive confirmation from your lender that the loan is paid off, the lien released, and the title transfer completed according to your state’s regulations.

Refinancing Your Loan

Refinancing a car loan involves obtaining a new loan to pay off your existing one, often with more favorable terms. This strategy can reduce your monthly payments, lower total interest paid over the loan’s life, or adjust the loan term to better suit your financial situation. Refinancing is a viable option if your credit score has improved, if current interest rates are lower than your original rate, or if you seek a different payment structure.

To prepare for refinancing, you will need to gather several documents and pieces of information. Lenders typically require:
Proof of income, such as recent pay stubs or tax returns
Proof of residence like a utility bill
Proof of car insurance
Your driver’s license
Detailed information about your current loan, including the lender’s name, account number, and the exact payoff amount

Your credit score is a significant factor in qualifying for better rates; a FICO score of 670 or higher can lead to more favorable offers.

The refinancing process typically begins by comparing offers from various lenders, including banks, credit unions, and online platforms. Once you select a suitable offer, you submit an application with the required documentation. After approval, the new lender will pay off your original loan, and your vehicle’s title will be updated to reflect the new lienholder. The time it takes for the old loan to be paid off and the title updated can range from a few weeks to a couple of months, depending on the state’s Department of Motor Vehicles. Refinancing can lead to a lower interest rate, reducing the overall cost of the loan, or it can extend the loan term, which might lower your monthly payment but could result in paying more interest over time.

Strategies for Early Loan Repayment

Paying down a car loan faster than its scheduled term can significantly reduce the total amount of interest paid over the loan’s life. Interest on car loans is typically calculated based on the outstanding principal balance, so reducing the principal sooner means less interest accrues. This approach can also free up cash flow in your budget once the loan is satisfied.

One effective method for accelerated payment is making extra principal payments. This can involve sending an additional payment specifically designated for the principal balance each month. Other options include:
Making bi-weekly payments, where you pay half of your monthly payment every two weeks, effectively making one extra full payment per year
Rounding up your monthly payment to the nearest hundred dollars to contribute more towards the principal without a large impact on your budget

Lump sum payments, such as those from a tax refund, work bonus, or other unexpected income, can also be applied directly to the loan principal. It is important to explicitly instruct your lender to apply any extra funds directly to the principal balance, rather than applying them to future interest or upcoming payments. Most lenders offer options to do this through their online portals, by mail with a specific note, or by contacting their customer service department. Before making any extra payments, it is advisable to review your loan agreement for any prepayment penalties, though these are uncommon with simple interest auto loans.

Voluntary Vehicle Surrender

Voluntary vehicle surrender is a measure of last resort for individuals who can no longer afford their car loan payments. This process involves the borrower proactively returning the vehicle to the lender. The initial step is to contact your lender and inform them of your inability to continue payments and your intention to surrender the vehicle. The lender will then provide instructions on where and how to return the car.

Voluntary surrender does not eliminate the outstanding debt. After the vehicle is returned, the lender typically sells it, usually at an auction. The proceeds from this sale are then applied to your loan balance.

If the sale price is less than the remaining loan balance, you will be responsible for the “deficiency balance.” This deficiency includes the difference between what you owed and what the car sold for, plus any associated costs like towing, storage, and auction fees. The lender may pursue collection of this deficiency balance, potentially through a collection agency or legal action.

Voluntary surrender has a substantial negative impact on your credit report and score, similar to an involuntary repossession. This derogatory mark can remain on your credit report for up to seven years. While some lenders may view a voluntary surrender slightly more favorably than an involuntary repossession, the credit score impact is still significant and can make it difficult to obtain new credit, especially another auto loan, for several years.