Are you sick of your old car? Does it make you feel “bleh” when you get into it? Do you wish you had a nicer car to show off to the world? These might seem like good reasons to trade in your car, but trading your car in at the wrong time can sometimes hamper your financial health.
What is an upside-down car loan?
An upside-down car loan isn’t a car loan for a car that’s physically upside-down. Rather it refers to the loan amount on the car. If the car loan is upside-down, it means the owner of the car owes more on their auto loan than the car is worth.
You might be wondering why it matters if you owe more than the car is worth, but what happens if you go to trade in that vehicle that’s upside-down? Generally speaking, if you go to trade in your upside-down vehicle at a dealership and try to get a new one, you’ll still be responsible for the remainder of the loan payments you signed up for on the first loan.
So, you could get a good or even a great deal on your trade-in, but still have to come out of pocket for a down payment if you owe more on your car than it’s worth. That difference could also put your desired car payment out of reach once that negative equity is added into your new auto loan.
How to get out of an upside-down car loan
Fortunately, you can pursue several different avenues to get out from under an upside-down car loan. The list below might be able to help you with your plan, if you find yourself in a negative equity position and a need to trade that car in.
Make extra payments
One way to boost your equity in your car loan and help bridge the gap between what you owe and what your car is worth is to make extra payments. The extra payments should help pay down your principal loan amount, which lessens the amount you owe on the vehicle.
Refinance your upside-down car loan
Choosing to refinance your vehicle can help you get a lower rate, but it can also help you eliminate some negative equity. Refinancing is usually done through a different lender than your original one, but it can yield a lower interest rate, and it offers the opportunity for you to put more money down so your equity position can improve.
Sell your car
If refinancing isn’t an option for you, and you’re unwilling or unable to put more money into your upside-down vehicle, you can always try to sell your car to a third party. Keep in mind that your lender will need the funds to pay off your vehicle, or the title will remain in your lender’s name.
Can I trade in my car with negative equity?
The short answer to this is yes. However, one thing you should keep in mind is that when you trade in your upside-down vehicle, your lender still needs to get the loan paid off. If the car you’re trading is worth less than the loan you took out to pay for it, the difference between the two will get added into your new car loan. This can increase your payment, and, ironically, it can put you upside-down on your new car loan before you even drive off the lot.
How to avoid an upside-down car loan
So how do you avoid being upside-down on your car loan? There are a few ways you can plan out your loan that will help you.
- Choose a shorter term – When you choose a shorter term, you’re basically shrinking the amount of time interest can accrue on your car loan. However, choosing a shorter term could also increase your payment.
- Increase your down payment – If you’re saving for a down payment, you might consider increasing the amount of down payment to put on your new car loan. This can help by increasing your equity in the vehicle.
- Research cars with low depreciation rates – You’ll have to do a little legwork on this point, but due diligence is important when you’re considering something as large as a car loan. There are plenty of credible resources online you can use to help you figure out which cars hold value the best. Cars that hold their value better than others can keep you from being surprised when you go to trade your vehicle in.
Consider a Drive® pre-qualification
If you’re in the market for a new car, upside-down or not, you might try to get pre-qualified with Drive. It only takes about two minutes, and it doesn’t impact your credit score.
