Upside Down Car Loan: Here Are Your Options

Hearing the term upside down car loan may seem a bit confusing. Typically, an upside down car is bad news.  The term is associated with a car owner owing more money on their car loan than what their car is actually worth. When the owner goes to trade in or sell their car, they can run into big problems if they have an upside down car loan. Being in a car accident becomes even more complicated as well. An upside down car loan is considered negative equity. Negative equity means the “owner” of the vehicle doesn’t actually hold any of the stake in the car. Those who have negative equity are often referred to as going “underwater” with their loan.

Causes of Car Loans Becoming Upside Down

Upside down car loans often occur when the owner of the car put little to no down payment on the automobile when they purchased it. “Rolling over” another car loan onto a new one also often leads to an owner facing an upside down car loan. Paying too much on a new car can also lead to your loan becoming upside down. Long term loans of 72 months or longer, especially those with a high interest rate, can become overwhelming and cause your car loan to go upside down. These tend to be the most common reasons for a loan to become upside down and cause the buyer to lose ownership of the vehicle.

Another common way for a car loan to become upside down lies within the first few monthly payments made on the car. These payments tend to be finance charges and can quickly become worth more than the value of the car. A high-depreciation value car losses its value rapidly, making it worth less than what you paid for it, and, ultimately, worth significantly less than the value of your loan.

Trading in a Car with Negative Equity

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Can you trade in a car if you owe more than what it is worth? Well, yes, you can. Sadly, the amount you still owe on your loan for the car you just traded in does not disappear. The value of the old loan is placed on top of the price of the new car you are trading it in for.

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Oftentimes, dealerships will tell you that they will pay off whatever you owe on your old loan. Though the dealership might “pay off your old loan,” they take what they paid and add it to the cost of your new car. When trading in a car with negative value, you must be very careful. The dealer may not tell you upfront that they will add to the cost of your new car if they pay off your old loan.

Adding value to the new car is the largest cause of lawsuits against car dealerships. Since the dealer may not tell a customer upfront what they are doing, the customer gets confused and does not understand that they do in fact owe that amount of money. There is absolutely nothing illegal about a dealer adding to the price; they paid your loan, so now you owe them the amount that they paid.

When you roll over a negative loan balance onto another vehicle loan, you are playing with fire. Many people think that if they buy a cheaper car, they will owe less money over time than if they kept the more expensive car. In the end, however, rolling over normally leads to an upside down car loan that is worth even more money than keeping the first car. Since the value you still owe on your car is placed onto the new loan, the values add up rather than subtracting from the overall value. Though you may be downgrading your vehicle, in the long run, it is not cheaper to roll over the loan.

How Can I Get Out of My Upside Down Loan?

The best possible way to get out of a loan that has become upside down is simply to keep the car and make the payments until what remains on the loan is equal to or less than the resale value of the car. Until you gain back positive ownership on the car, trying to sell or trade it in will only bring more financial burden. Continuing to make payments may seem like a burden, but having a loan roll over is very dangerous.

Though it may sound odd, leasing your next car is a way to get out of an upside down loan. Leasing a car has significantly lower payments than purchasing one. These payments will be lower than the payments you must make to continue paying off your loan. Following through with the whole lease, however, is extremely important. Ending the lease early can cause extra fees which put you back into a financial bind.

If you have a very large negative equity, whoever you chose to finance your next car through may not approve a loan for the whole amount that the new car is worth. To compensate, a large cash down payment will have to be made. Dealers may try to “hide” the negative equity to help a customer get a loan or lease approved. The dealer will offer a higher trade in value of their old car, then add the same amount onto the new car’s price. Though a bank may see this as less negative equity, the total cost still comes out the same in the end for the customer: higher than what it was before. Do not let the dealership fool you with this tactic. It will not help you get rid of the negative equity.

What Happens if My Car With Negative Equity is Totalled or Stolen?

No matter how much you may wish it, a loan company will not just “write off” a loan if your car gets destroyed or is stolen. After your insurance company comes up with a settlement, you still must pay off the remaining value of the loan. Sometimes a cash payment must be done upfront for the loan to be considered “closed.” This situation can be financially disastrous to someone with a negative equity car loan.

To make sure this situation does not occur, gap insurance should be purchased. Gap insurance will cover the remaining cost of the car loan regardless of the amount after the insurance settlement is over. Gap insurance can be purchased through your automobile insurance company at a relatively cheap price. Many dealerships also offer some sort of gap insurance. If you have a generous down payment available to put on your next car, it is unlikely you will need to purchase gap insurance. On the other hand, if you have a relatively small down payment, or none at all, purchasing this sort of insurance could save you thousands of dollars in the long run.

Resurfacing from an Upside Down Loan

Having an upside down car loan can be cause for alarm. Owing more money than what your car is worth is a sticky situation that must be handled correctly. Following the correct steps can help you come back up and survive the upside down loan. Take the time to make sure you have a good down payment before buying a new car to prevent going into negative equity again.


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