Understanding an Upside-Down Car Loan

Taking out an auto loan is a big financial decision. And like with any other big decision, there are risks involved. One of those risks is an upside-down car loan. An upside-down on a car loan occurs when you owe more on your loan than the car is currently worth. This can happen for a number of reasons, but it usually comes down to two things: depreciation and negative equity.   

Being upside-down on a car loan is easier than one may think and it can happen if you finance a new car and the value of the car decreases faster than you pay off the loan. Or if you take out a loan to cover a down payment or fees and then the value of the car drops.  

Once you go upside-down on a car loan that can be difficult to deal with because it makes it hard to sell or trade in your car. If you need to sell your car before the loan is paid off, you may end up having to pay more than the car is worth. You may also have trouble getting approved for a new loan if you have an upside-down car loan because lenders will be concerned about your ability to repay the loan.  

What Exactly is an Upside-Down Car Loan?

What an upside-down car loan essentially is, is a type of auto loan where the borrower owes more money on the loan than the car is currently worth. This can happen for a variety of reasons, including negative equity from a previous car loan, being upside-down on a lease, or making a low down payment.  

If you are in this situation, you may be asking how to get out of an upside-down car loan. Well, first of all, you must know that it can be difficult to get out of the situation. You may have to sell the car and pay off the loan yourself, or try to qualify for an upside-down car loan refinance. You can also trade in the current car for a less expensive one. If you have equity in your trade-in, this could help offset some of your upside-down balance.   

Either way, it’s important to understand your options and make a plan to get out of the hole you’re in.  

What Causes You to Have an Upside-Down Car Loan?

There are many causes of an upside-down car loan, some we already mentioned, and some we will include now:  

• Making late payments on your loan  
• Having negative equity from a previous car loan  
• Rolling over negative equity from a trade-in vehicle  
• Putting too small a down payment when you purchase the vehicle.  

In case you find yourself in an upside-down situation, don’t panic. There are a few ways to get yourself out of it. The first thing you should do is try to make extra payments on your loan to reduce the principal balance. You can also refinance your loan at a lower interest rate or extend the term of the loan to lower your monthly payments.  

How to Know if Your Car Loan is Upside-Down?

You may be unsure whether or not your car loan is upside-down. Here are some key indicators. First, check your loan balance against the current value of your vehicle. If you owe more on the loan than the car is worth, you’re upside-down.  

Next, look at your monthly car payments. If you’re making more than the minimum payment and not seeing a dent in your principal balance, you’re likely upside-down. Finally, compare the interest rate on your loan to current market rates. If you’re paying significantly more interest than what’s available today, that’s another sign.  

How to Get Out of an Upside-Down Car Loan

There are a few ways how to get out of an upside-down car loan or how to avoid being upside down on a car loan altogether. 

• Keep making regular payments on your loan until the balance owed is less than the value of the car. This will take time, but eventually, the tide will turn and you’ll have some equity in your vehicle again.  
• Make extra payments on your principal each month to speed up the process of repaying the loan.  
• Refinance your loan to get a lower interest rate and monthly payment.  
• Sell or trade in your car and use the proceeds to pay down the loan balance. This can be a way to get out from under an upside-down loan without having to wait for years.  

Whatever route you choose to take, it’s important to stay disciplined with your payments and keep up with regular maintenance on your vehicle to avoid further depreciation in value. With some time and effort, you can get out from under an upside-down car loan and back on solid financial ground.  

How to Avoid Being an Upside-Down on a Car Loan

Now that you know what to do if you’re upside-down on a car loan it is also important to know how to avoid this situation altogether.  

• Make a larger down payment. The more money you put down upfront, the less you’ll have to finance, and the less likely you are to be upside-down on your loan.  

• Finance for a shorter term. The longer your loan term, the more interest you’ll pay, and the greater the chances that your car will be worth less than what you owe when it’s time to trade it in or sell it. Shorter terms mean higher monthly payments, but they also mean less interest paid over time and lower risks of being upside-down.  

• Choose a vehicle with low depreciation rates. Some cars hold their value better than others, so do your research before making a purchase. Cars that retain their value longer will be less likely to leave you upside-down on your loan when it’s time to trade them in or sell them.  

Bottom Line

An upside-down loan is not necessarily a bad thing, but it can make it difficult to sell or trade-in your car. It can be especially hard to get out of an upside-down on a car loan with bad credit as your refinancing options will also be limited.  

In case you need to sell or trade-in your car before the loan is paid off, you may have to pay the difference between the loan balance and the sale price out of pocket.  

There are a few ways to deal with this loan situation and we did give you some of the best options for an upside-down car loan. You can keep making payments until the loan is paid off, even if it takes longer than expected. You can try to refinance the loan at a lower interest rate or for a shorter term. Or you can sell the car and use the proceeds to pay off the loan balance.  

Either way, we suggest you get some professional guidance if you need any additional help in getting back on your feet after an upside-down.