What to Do With an Upside Down Car Loan?

An upside-down car loan, often referred to as negative equity, occurs when the outstanding balance on your car loan exceeds the vehicle’s current market value. This financial situation means you owe more on the car than it is presently worth. Several factors commonly contribute to a car becoming upside down, including rapid depreciation of the vehicle, particularly in its initial years, and the selection of longer loan terms that extend payments over many years. Making a low or no down payment when purchasing the vehicle also significantly increases the likelihood of immediately starting with negative equity. This article provides practical guidance on how to assess and address the financial implications of being in an upside-down car loan situation.

Calculating Your Negative Equity

Calculating negative equity requires two primary pieces of information: your current loan payoff balance and your vehicle’s current market value. Obtaining these figures allows for a precise calculation of the difference.

First, contact your lender for your current loan payoff balance. This amount is distinct from your principal balance, as it includes accrued interest and potential fees. You can usually get this from your online account, statements, or by calling your servicer.

Next, accurately estimate your vehicle’s current market value. Online tools like Kelley Blue Book, Edmunds, and NADA Guides provide reliable estimates based on your car’s details. Consider both private party sale and trade-in values, as these can differ. Dealership appraisals also offer another perspective.

Once you have both figures, calculate your negative equity by subtracting the vehicle’s market value from your loan payoff balance. If the resulting number is positive, it represents the amount of negative equity you currently hold. Conversely, a negative result indicates you have positive equity, meaning your car is worth more than you owe.

Understanding Your Options for Negative Equity

Addressing negative equity involves several strategies to reduce the discrepancy between your loan balance and vehicle value. Understanding each option is important for informed decision-making.

One strategy involves accelerating your loan payments. By consistently paying more than your minimum monthly obligation, you directly reduce the principal balance of your loan at a faster rate. This approach helps the loan balance decrease more quickly, allowing the vehicle’s value to catch up to the amount owed over time. Making extra principal payments or switching to bi-weekly payments can contribute to this acceleration.

Refinancing your car loan represents another option. This involves obtaining a new loan, typically from a different lender, to pay off your existing car loan. A new loan might come with a lower interest rate, which can reduce the total interest paid over the loan term, or a shorter repayment period, which helps build equity more rapidly. Some financial institutions specifically offer refinance options tailored for borrowers with negative equity, potentially allowing for a structured path to positive equity.

Selling the vehicle is a direct way to address negative equity, though it requires covering the deficit. When you sell your car, the proceeds from the sale are applied directly to pay off the outstanding loan balance. If the sale price is less than the loan payoff amount, you will need to pay the remaining difference out-of-pocket to fully satisfy the loan obligation. This method eliminates the loan entirely, but it demands an immediate financial outlay if negative equity exists.

Trading in your vehicle at a dealership is another common approach, particularly if you intend to purchase a new car. In a trade-in scenario, the negative equity from your current vehicle is often rolled into the financing of your new car. This means the deficit is added to the purchase price of your new vehicle, increasing the total amount of your new loan and, consequently, the overall cost of your next car. This option can simplify the transaction but extends the financial burden of the negative equity.

Simply keeping the vehicle and continuing to make regular payments is also a viable strategy. Over time, as you make consistent payments, your loan balance will steadily decrease. Concurrently, while vehicles depreciate, the rate of depreciation typically slows down after the initial years of ownership. This combination of a decreasing loan balance and decelerating depreciation will eventually lead to your loan balance falling below the car’s market value, resolving the negative equity organically.

Implementing Your Chosen Strategy

Once you identify a suitable strategy for addressing negative equity, understanding the practical steps for implementation is important. Each approach requires specific actions.

If you choose to accelerate loan payments, contact your loan servicer about their policies for additional payments. Many lenders allow extra principal payments online or by check. You can also adjust payment frequency, such as making bi-weekly payments, which results in an extra full payment each year.

For refinancing your car loan, gather necessary financial documents like loan statements, proof of income, and credit report details. Research various lenders, including banks, credit unions, and online institutions, to compare interest rates and loan terms. After submitting applications and receiving approval, close the new loan to pay off your original car loan.

When selling a vehicle with negative equity, market your car to potential buyers and negotiate a sale price. Once a buyer is secured, determine how to cover the negative equity difference, possibly using personal savings or a small personal loan. Coordinate with your lender and the buyer to ensure the loan is paid off and the vehicle title is properly transferred.

If trading in your vehicle, negotiate the trade-in value with the dealership when purchasing a new car. Review the new loan agreement carefully to understand how the negative equity from your trade-in is incorporated into the total loan amount. Ensure all terms, including the new loan’s interest rate and total cost, are clearly understood before finalizing the agreement.

For those who decide to keep their vehicle, implementation involves consistent monitoring and adherence to current loan terms. Regularly review loan statements and compare your outstanding balance against updated market valuations. This ongoing assessment helps track equity progress as your loan balance decreases and depreciation changes. Maintaining financial discipline is key to allowing time to resolve negative equity.