How to Trade a Car With Negative Equity

Understanding Negative Equity

Negative equity in a car loan occurs when the amount you owe on your vehicle is greater than its current market value. This situation is often referred to as being “upside down” or “underwater” on your loan. Cars typically begin to depreciate, or lose value, the moment they are driven off the dealership lot. This rapid depreciation can cause the car’s value to drop faster than the loan balance decreases, leading to negative equity. This financial imbalance can present a challenge when you decide to trade in your vehicle for a new one.

Calculating Negative Equity

Accurately determining the amount of negative equity on your car loan involves two main steps. First, you need to estimate your car’s current market value, specifically its trade-in value. This can be done using reputable online valuation tools such as Kelley Blue Book, Edmunds, or the National Automobile Dealers Association (NADA) guides. These tools typically require you to input your vehicle’s identification number (VIN) or license plate, mileage, condition, and any specific options or features to provide a customized valuation.

Next, you must obtain the exact payoff amount for your current car loan from your lender. It is important to request the full payoff amount, as this figure can differ from the current balance shown on your monthly statement due to “per diem” interest. Per diem interest is the daily interest that accrues on your loan balance, meaning the amount owed increases slightly each day. Lenders can provide this payoff amount through various channels, including online portals, automated phone systems, or by speaking with a representative.

Once you have both figures, calculate the difference by subtracting your car’s current trade-in value from your loan payoff amount. For example, if you owe $20,000 on your loan and your car is worth $15,000, you have $5,000 in negative equity.

Available Strategies for Trading In

When facing negative equity, several strategies can be employed to facilitate a trade-in. One common approach is to roll over the negative equity into the financing of your new vehicle. This means the outstanding balance from your old loan is added to the principal of your new car loan, effectively combining the two debts. While this option can seem convenient, it increases the total amount borrowed for the new car, leading to higher monthly payments and a greater amount of interest paid over the life of the new loan.

Another strategy involves paying off the negative equity separately at the time of the trade-in. This option requires you to cover the difference between your outstanding loan balance and the car’s trade-in value out-of-pocket. You might use personal savings or even secure a separate personal loan to cover this amount. Paying off the negative equity directly prevents it from being added to your new car loan, which can result in a lower principal amount, reduced monthly payments, and less interest paid on the new vehicle.

A third option is selling your current car privately before purchasing a new one. Selling privately can often yield a higher sale price compared to a dealership trade-in value, potentially reducing or even eliminating your negative equity. However, this strategy requires you to manage the entire sales process, including advertising the vehicle, negotiating with potential buyers, and handling the necessary paperwork to pay off your existing loan and transfer ownership.

The Dealership Trade-In Process

When you arrive at a dealership with a car you intend to trade in, the process typically begins with an appraisal of your current vehicle. A trained used car appraiser will examine your car’s exterior for damage, inspect the interior condition, and assess factors like mileage, age, and maintenance history. They will also consider current market data, including recent sales of similar vehicles, to determine a trade-in value.

Following the appraisal, the next step involves negotiating the purchase price of the new car. It is generally advisable to negotiate the price of the new vehicle independently from the trade-in value of your current car. This separation helps ensure you are getting a fair deal on both transactions without one influencing the other. Focusing on the new car’s price first can prevent the dealership from adjusting numbers between the two to their advantage.

If you have chosen to roll over your negative equity, this amount will be incorporated into the financing paperwork for your new car. The dealership will present a loan agreement that includes the purchase price of the new vehicle plus the outstanding negative balance from your trade-in. This larger loan amount will then be subject to the terms, including interest rates and repayment period, of your new financing agreement.

The final step involves reviewing and signing the loan documents and other necessary paperwork to finalize the purchase and transfer ownership. Carefully examine the final contract to ensure all terms, including the new car’s price, the trade-in value, and any rolled-over negative equity, align with your understanding. This review ensures accuracy before you commit to the new loan and take possession of your new vehicle.