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How to Handle Negative Equity

If you owe more on your car than it’s worth, there are steps you can take to build positive equity faster.

Escaping the Upside Down

You’ve heard it said many ways… “upside down on your auto loan,” “underwater on your loan payment,” or the dreaded phrase “negative equity.”

At some point, many of us will experience a situation where we owe more on something than what it’s worth. For instance, you might want a new car and still owe more on your old car than the vehicle will earn you when you trade it in.

The transaction might seem simple enough, especially when you read advertisements that promise a dealer will pay off your loan, no matter how much you owe. However, the process is bit more complicated than that.

Let’s assume your car’s trade-in value is $8,000, but you still owe $12,000.

The $4,000 difference is negative equity, and it won’t magically disappear – you still pay for it.

Oftentimes, the dealership will finance the negative equity into your new loan. This decision can cost you even more when you consider the interest charges on the additional amount financed and the fact it will contribute to you being underwater on your new car too!

So, what can you do if you are in this situation and owe more than your car is worth?

Here are three tips that can help.

1. Don’t do it.

Reconsider your decision to purchase a new car until a time when it makes more sense financially and you’re no longer in a negative equity position.

2. Delay your purchase.

Consider waiting to trade in your car until you’ve paid off the loan or at least until you’re no longer in a negative equity position. One way to accelerate this process is by paying extra toward the principal portion of your loan.

3. Consider a trade-down.

If you do decide to trade in your current vehicle, think of trading down into a more sensible, less expensive one. If possible, keep the total cost, monthly payment, and term of your new loan less than your current loan. This tip can be especially helpful for those who overspent on an expensive vehicle in the past and have new financial priorities.

Key Takeaway: Do what you can to avoid buying a new vehicle when you owe more on your existing vehicle than it’s worth. Delaying your purchase and paying extra on your existing loan to build positive equity can rebalance your situation.