How To Avoid Going Upside Down On A Car Loan Next Time
Here are a few strategies to keep your car loan above water the next time around:
- Buy a used car. Used cars depreciate at a much slower rate than new cars a new car drops 10% in value the minute you drive it off the lot.
- Opt for a lease instead. Since youre essentially renting the car for a few years, the cars value isnt your responsibility.
- Make a sizable down payment. Putting at least 20% down when you buy a car reduces your loan balance, lowering the likelihood of it becoming upside down.
- Go for a shorter term. A short term on a car loan means your repayments can better keep up with your cars rate of depreciation while also helping you save on interest.
- Get gap insurance. Unlike standard car insurance policies, gap insurance covers the difference between what your car is worth and the amount you owe on it should you get into an accident.
Refinance Your Auto Loan
Refinancing your car loan can help in a couple of ways. First, if your credit score has improved or market interest rates have gone down, you may be able to score a lower rate than what you’re paying right now, which will lower your payment amount.
Second, you may be able to refinance into a loan with a longer repayment term. Spreading out your payments over a longer period of time will make them more affordable each month. At the same time, though, you’ll ultimately pay more over the life of the loan.
When refinancing your auto loan, you’ll want to shop around for the best interest rate to ensure the biggest savings in your finance payments. Also, consider the potential cost of fees associated with the new loan, government paperwork and if your existing loan has a prepayment fee that’s charged if you pay off the loan early.
How To Pay Off Your Car Loan Early
1. Pay half your monthly payment every two weeks
This may seem like a wash, but if your lender will let you do it, you should. With a payment every twoweeks, youll end up making 26 half-payments per year. That adds up to 13 full payments a year,rather than 12.
If you have a 60-month, $10,000 loan, youll save only about $35 in interest, but youllrepay the loan in 54 months rather than 60. Thats six months of your life back and can be aneasier transition if you get paid every two weeks.
2. Round up
Instead of just paying what is recommended, round your payments up to the nearest $50 to help repayyour car loan more quickly.
Say you borrowed $10,000 at a 10% interest rate for 60 months, then your monthly payment is $212.47.With that payment, youll repay your car loan in 60 months, having paid $2,748.23 in interest.
However, if you decide to round up and pay $250 a month, youll repay your car loan in 47months, having paid only $2,214.69 in interest saving you $533.54!
3. Make one large extra payment per year
This is the one-time version of rounding up. But it doesnt matter when you do it.
Lets say you borrow that same $10,000 over 60 months at 10% interest. If you make an extra payment of$500 a year, you will repay the loan in 49 months, having paid $2,279.35 in interest a savings of$468.88 in interest.
4. Make at least one large payment over the term of the loan
5. Never skip payments
6. Refinance your loan
Dont Forget to Check Your Rate
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Get A Credit Card Advance
If you still have room in your credit card, getting a cash advance to pay off the loan in full can be one of your options. While getting a credit card cash advance is not always ideal, it is still much better than a title loan because a credit card cash advance only has 24% APR. This means that even with the upfront fees charged by credit card companies on top of the interest, it is still a better deal than paying 300% APR and risking your car.
How To Get Out Of An Upside Down Car Loan With Negative Equity
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Date
In the housing industry, its called negative equity. In the automotive industry its called being upside down. In both cases, it means the same thing: You owe more money on an asset than the asset itself is worth.
When youre upside down on a car loan, you can end up in big trouble because a car doesnt grow in value like a house often does. You can list a car as an asset on your balance sheet if you want, but in reality, its not an asset or an investment. Its an expense.
If youre in this unfortunate position, you cant lower your payment by refinancing, and selling your property wont cover the whole loan. How did you get here, and what can you do?
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Why Should I Refinance A Car Loan
Refinancing to a loan with a lower interest rate can help you save money over time, while refinancing to a new loan with a longer term can lower your monthly payments, although you may wind up paying more over the life of the loan.
Itâs important to note that refinancing a car loan can come with some additional fees, and can have a small negative effect on your . But if youâre able to get a better interest rate on a new auto loan, or if you need to switch to a lease with a longer term so your payments will be lower, refinancing could make sense for you.
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Tips For Avoiding An Upside
Its best to avoid an upside-down car loan altogether whenever possible. Be diligent with research before you buy a car and understand all the costs of options, financing and taxes so you arent already upside down when you drive out the door.
For most people, that means accepting that you cant afford to purchase a new car. Instead, look for a late-model used car with low mileage. The original owner will have paid the price for depreciation in the first year, so the purchase price should be at least 20% off the original cost.
If you are still tempted to buy new, try using the 20-4-10 rule, which means 20% down payment no more than 4-year loan and the monthly car payment plus insurance cant be more than 10% of your gross income. If you cant make those numbers work, its time to go back to the used-car lot.
The following tips can help you avoid an upside-down auto loan:
Choose the shortest repayment plan you can afford. Shorter repayment plans mean lower interest rates and faster payoff. For example, borrowing $25,000 for three years at 6.93 interest would result in $2,764 in interest paid. The same deal over four years would cost $3,716 in interest and a five-year loan would be $4,715 in interest. Thats about $1,000 more each year for the same loan. The difference would be magnified even more if your credit score was under 650.
Make a down payment of at least 20% of the cars total cost. This equals the 20% depreciation on the car that happens when you leave the lot.
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Fair Option: Refinance Your Current Loan With A New One
You probably didnt sign up for your car loan expecting trouble, but if you do find yourself behind on payments and still want to keep the car and keep paying for it, you may be able to refinance with a new auto loan.
When you refinance, you pay off the old loan with the proceeds of a new loan. If your credit has improved since you first bought the car, you might find a better deal when you refinance.
But if your credit is the same or worse, you could end up paying a higher interest rate.
Spreading out the loan over a longer period of time lowers the monthly payments but leads to higher total costs over time. For some people, a longer loan could be worth it. But for most, its best to pay off the vehicle as quickly as you can afford.
Just shop around for the best financing options and finance company for you and make sure the new car loan would be a better deal than the original loan so it can actually save you money.
Bonus:
If you refinance the loan for a lower interest rate and a better loan term, and you have GAP insurance, you could be entitled to a partial refund for GAP insurance you didn’t use. This could also help put a little money back in your pocket if you need it.
What To Do If Youre Upside Down On Your Car Loan
All of this advice becomes slightly more complicated when youâre upside down on your auto loan. That means you owe more money on your car than the vehicle is worth. This isnât necessarily a problem if you can continue to make your payments â although itâs certainly not ideal to owe more money on your vehicle than the car is worth.
Being upside down on a loan becomes much more of a problem if youâre also struggling to afford your monthly payments. In this case, you can still try to refinance to a better deal, but it may not be possible to refinance to a better offer. You can also still sell your car when you owe more on it than itâs worth, but youâll have to deal with paying off the difference between your carâs value and whatâs left on the loan.
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Ask To Lower Or Suspend Payments
This option doesnt involve breaking your car lease. But it could make the lease more financially bearable if youre having trouble making payments.
Talk to the leasing company. Dont be embarrassed if youve run into financial trouble. Focus on a solution. Its certainly better for you and the lender to suspend payments rather than stop paying altogether, leading to a possible repossession.
The lender would have to pay to repossess the car, process the paperwork and sell the car at auction, usually for a loss. You dont want to have a nonpayment or repossession on your .
Note:
Using A Car With Negative Equity As Trade
You can fill in the rest of that ad with the name of just about any car and just about any dealership in the U.S. and the promise will be as empty as your bank account because it promises negative equity.
The ad plays on every station in every market in America and you have to admit its enticing enough to make you stop and think about doing it. Someone else bails you out of a bad loan situation and puts you into a new car with no out-of-pocket expense. Whats not to like about that?
Heres a word of advice from car-buying experts: DONT EVEN CONSIDER IT!
Trading in a car with negative equity to take on another car loan with even more negative equity is like throwing gas on a fire because its the only liquid you had handy. You just increased the chances for a serious financial meltdown and here is an example of why.
Lets say you owe still owe $10,000 on a car that is only worth $5,000. The dealer will pay off the $5,000 difference, but then roll that amount into the loan on your next car. So, if you needed to borrow $20,000 for the new car, the dealer rolls another $5,000 into the loan to cover the cost of paying off your previous loan and now youre borrowing $25,000.
Not only will your monthly payments be higher , but you likely will be paying higher interest on the loan.
And, dont forget, youre going to add more negative equity to your situation when you calculate the 20% depreciation in value the new car will lose when you drive it off the lot.
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The Dealer Is Not Your Friend
Whatever you do, avoid the temptation to throw yourself on the dealers mercy. Chances are, theyll roll the negative equity into a new loan and youll be in worse shape than before. Instead, take control of the situation yourself and do whats right for you now and in the long run.
About the author:Philip Reed is an automotive expert who writes a syndicated column forNerdWallet that has been carried by USA Today, Yahoo Finance and others. He is the author of 10 books.Read more
How Negative Equity Works With A Trade
With rare exceptions, cars decrease in value with age. Depending on other factors, like accidents, repairs, or other damage, the value of a car may decrease even faster. If you borrowed money to buy a car, you might owe more on your car loan than its current value. When that happens, you have negative equity in the car. Some car dealers say you wont be responsible for the remaining balance on your old car loan when you trade in your old car. But that might not be true. Dealers sometimes just roll over the negative equity into your new car loan, so you still end up paying it.
Example
Say you want to trade in your car for a newer model.
- Your loan payoff is $18,000
- Your car is worth $15,000
You have negative equity of $3,000. That must be paid if you want to trade in your vehicle. If the dealer promises to pay off the $3,000, it shouldnt be included in your new loan.
But some dealers
- add that $3,000 to the loan for your new car
- subtract the amount from your down payment
- or do both
Either way, this increases your new loan amount and its monthly payments: not only would the $3,000 be added to the principal, but youd also be financing it .
Understanding how negative equity works in a vehicle trade-in can help you make a better informed decision about buying and financing a car. It also helps you recognize if claims in car ads that promise to pay off your loan are misleading.
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Trade In Your Car For A Less Expensive One
When refinancing is off the table, you can often downgrade to a less-expensive, used car by bringing it in to a dealership. You wont fully get rid of your car loan, but you could reduce your balance.
Read the contract carefully before you sign it, though. Some dealerships will try to move your current balance into a loan with a longer term. This gives you lower monthly repayments, but you could actually end up paying more in the long run if your rate stays the same.
Trade It In For A Less
If youd rather not sell your car, you can also trade it in at a dealership for a less-pricy used vehicle. Try to go for a car with a value thats close to your loan balance.
But watch out for dealership financing: Itll often roll whats left of your old loan into the new one, which could land you with another upside-down car loan.
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How To Return A Leased Vehicle
If you’ve leased the car, you’re in a somewhat different situation. Obviously, you can’t sell it.You can return the vehicle to the dealer, but if it’s before the lease expires, you’ll likely face some stiff early termination fees. Plus, you will still owe the balance remaining on the lease andâto add insult to injuryâalso lose the upfront money originally paid.
However, drivers who want out of their contract ahead of schedule can take heart: There are a few options that allow you to circumvent the usually harsh termination penalties. One frequently overlooked pathâand often the least expensive choiceâis to transfer the lease to someone else.
It works like this. Suppose you have two years left on a three-year lease. Whoever buys your lease agrees to make the remaining monthly payments. While some finance companies donât allow such transfers, the vast majority do. The trick is finding someone interested in taking the reins from you.
What Happens When A Title Loan Company Goes Out Of Business
If a company you owe money to goes out of business, you may or may not be relieved of your debt. Debt collection agencies specialize in buying debt from companies that don’t want to collect it, including companies going out of business. Your debt may be sold to one of these debt collectors as the title loan company tries to recoup as many losses as possible. If that happens, nothing has changed as a borrower, and you still owe your full debt.
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How To Get Out Of A Car Loan You Cant Afford
Balances on car loans increased by $17 billion in the third quarter of 2020, according to the Center for Microeconomic Datas September 2020 report on household debt. The same report showed that 2.09% of loan holders were at least 90 days delinquent on their payments.
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Delinquency negatively affects your credit score, which could impact other areas of your life. The good news is that affordable solutions are available, whether you need a way out because youve lost a portion of your income or discovered unexpected costs associated with your car loan. Read on to learn the steps you need to take to get out of a car loan.
