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How to Avoid Trading in a Car with Negative Equity

A recent survey DealerRater conducted for Automotive News looked at the different ways car buyers deal with negative equity on their trade-ins. It found that the majority of consumers deal with this all-too-common situation in the worst possible way. 

Automotive News-DealerRater Survey

The Automotive News informal survey, conducted by DealerRater, looked at the most common actions that buyers take when trading in a car with negative equity ("negative equity" is when your car's value is less than the loan balance).

From May 5th to the 24th of this year, DealerRater interviewed 88,874 consumers who visited a dealership to shop or to have their car serviced. Of those, 46,700 respondents traded in their previous car when they bought or leased their most recent vehicle.

Over one third (37 percent) of those 46,700 respondents said they had negative equity in their trade-in. Here is how those buyers dealt with that situation:

  • 54 percent rolled their negative equity into their next loan or lease.
  • 21 percent "took some other action" (Automotive News did not specify what these other actions were).
  • 19 percent increased the amount of their down payments.
  • 6 percent opted to buy or lease a different vehicle than they had originally planned to.

Over half of the buyers polled rolled the debt into their next loan or lease. From a financial point of view, this is disappointing since this is the worst way to deal with this situation. Not only does it make your next loan or lease more expensive, it can put you in a debt spiral that's hard to escape.

Avoid Trading in a Car with Negative Equity at All Costs

Having negative equity is sometimes also referred to as being "underwater" or "upside down." Regardless of the word you use, negative equity is a growing problem with loan amounts rising and loan terms increasing.

Having negative equity isn't typically an issue if you plan to keep your car for a while and/or pay off the loan in full. It only becomes a problem when your vehicle is totaled, stolen, or you want to trade it in halfway through the loan term.

Let's look at an example of why being upside down can present an issue if you want to trade in your car. Say you have a balance of $12,000 left on your auto loan, but the vehicle is only worth $10,000. This means you have $2,000 worth of negative equity—and it isn't going to just disappear. Your options are to either deal with it now or deal with it later.

If you want to trade in your car, rolling the balance over into a new loan means paying on the new vehicle, plus the $2,000 from your last car. This means you're making payments on two cars at once, and your monthly payment and interest charges will be larger, as a result.

Worse yet, it typically means you'll be further upside down in the new loan. Rolling negative equity into a new loan just compounds your problem, which can create a debt cycle that can quickly spiral out of control.

For these reasons, every expert on the subject, including the team here at Auto Credit Express, will tell you that trading in a car with negative equity should always be viewed as a last resort option. This statement rings more true for those dealing with less than perfect credit, especially considering the higher than average interest rates these borrowers face.

Instead, it will be in your best interest to look at these alternatives:

  • Cover the negative equity out of pocket.
  • Find a new car with a big manufacturer rebate attached. If you don't have the cash to cover the difference out of pocket, this is a good alternative to explore.
  • Hold off on trading in your vehicle until you are no longer underwater or you have paid off the loan. Try making larger payments than your minimum amount to take care of this faster.
  • Try to sell the car yourself to get more than you would if you were to trade it in.

The Bottom Line

In an ideal world, you would always have equity in your vehicle so you could avoid this situation. Because negative equity is a common issue, however, it's best to figure out a way to avoid trading in a car when you are upside down in your loan. Buyers, especially those dealing with credit issues, should do whatever it takes to avoid this situation.

Another car buying roadblock can be your credit. Having bad credit or no credit can make it difficult to get approved for a car loan. Luckily, Auto Credit Express is here to try to make that process easier.

We connect car buyers to local special finance dealerships that know how to work with challenging credit situations. Our service is free of charge and obligation, so go ahead and get started by filling out our car loan request form right now.

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