Is Your Car Loan Upside-Down? How to Handle Negative Equity

Philip Reed
By Philip Reed 
Edited by Samantha Allen

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Without even knowing it, you may have put yourself in a financially precarious position: being upside-down on your car loan.

Maybe you bought a new car without making a down payment. Or perhaps you opted for low, “easy” monthly payments by stretching your loan to 72 or even 84 months.

However you got there, it’s time to get right-side up again and avoid serious problems in the future.

What it means to be upside-down

Being upside-down on your car loan simply means you owe more than the car is worth. It’s sometimes called being underwater on the loan or a negative-equity car loan.

So, if your car’s worth $10,000 but your loan balance is $12,000, then you’re $2,000 upside-down. If you want to get rid of your car, you’ll not only have to sell or trade it in, but you’ll also have to pay the lender $2,000. This is also known as having negative equity.

However, if you have positive equity — you owe less than your car’s value — your car becomes an asset, giving you more financial flexibility in life. For example, with $2,000 in equity, you could trade in your current car and have $2,000 as a down payment on a different one.

Keep in mind that determining the value of your car isn’t an exact science. The value also depends on whether you trade in or sell to a private party buyer.

Why it’s risky

Being upside-down isn’t automatically a problem if you can keep up with payments and keep your car until the loan is paid off. But life is unpredictable, and things can change quickly.

Here are a few common situations where being upside-down can be treacherous:

  • Your car is totaled. After an accident, the insurer pays out the current value of your car (based on their estimate). But if you’re upside-down, you’ll owe the lender that amount, plus your negative equity — possibly several thousand dollars out of pocket.

  • You can’t keep up with the payments. If you’re struggling to make ends meet and want to downsize to a cheaper car, you’ll have to give up your current car and also pay the negative equity. That’s a tough order if you’re already short on cash.

  • You suddenly need a different vehicle. Perhaps you’re driving a sports car now but discover you’ll soon have a baby. You’d like to trade in the sports car and buy a minivan. Again, you’d pay the amount you owe above the trade-in value of the sports car.

Find out where you stand

Fixing your situation begins with figuring out the status of your loan.

  1. Check your loan balance. Contact your lender or check a recent loan statement to find out how much you still owe.

  2. Estimate your car’s value. Look up the trade-in value of your car on pricing guides like, Kelley Blue Book or the National Automobile Dealers Association (NADA). This gives you a conservative estimate, since trade-in prices are lower than private party prices.

  3. Do the math. Subtract the loan balance from the value of the car. If the result is positive, you have equity. If it’s negative, you’re upside-down.

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Get right-side up again

Now that you know where you stand, you can take action. While these steps aren’t easy, they will give you peace of mind to know you’re moving in the right direction.

  • Make extra payments. The faster you pay down your loan, the faster you’ll eliminate the negative equity. This can also reduce the amount you pay in interest. Just make sure extra payments go toward your principal.

  • Refinance with a shorter loan term. Refinancing your car won't reduce the remaining loan balance, but it may help you get right-side up faster and save you money on interest over time. However, this option will mean a higher monthly payment, so make sure you can afford it. Use an auto loan refinance calculator to see what makes sense for you.

  • “Drive through” the loan. If you continue making on-time payments, you should eventually catch up with the car’s value and begin building equity. However, this takes time and patience. If you have a significant amount of negative equity, consider purchasing gap insurance, which would cover the difference between an insurance settlement and the amount owed on the loan.

  • Bury the negative equity in a lease. You may be able to trade your car on a leased vehicle, then turn the car in and walk away. Your payments will reflect the negative equity, but at the end of the lease you will walk away owing nothing.

The dealer is not your friend

Whatever you do, avoid the temptation to throw yourself on the dealer’s mercy. Chances are, they’ll roll the negative equity into a new loan and you’ll be in worse shape than before. Instead, take control of the situation yourself and do what’s right for you now and in the long run.