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What’s An Upside-Down Car Loan? It’s A Growing Problem In America

Key Takeaways

  • 1 out of 3 drivers have upside-down car loans.
  • Proactive steps can reduce your chances of negative equity.
  • Consider your credit score, down payment, and vehicle needs before buying a costly new car.

The term “upside down” doesn’t sound like much fun. Generally speaking, you want to be “right side up”, and that is definitely the case when it comes to an auto loan. Within the auto industry, being upside down in a car loan simply means that the balance on your loan is greater than the value of your car. Below are some helpful tips on how to make certain that you don’t find yourself in this position on your car loan.

Buying New Isn’t Always Best

If you’re thinking of buying a new car, you have to realize that it will lose value as soon as you drive it off the dealer’s lot. Once you hit the street, that car or truck technically becomes used, and it’s no longer priced like something that is brand-new. The speed at which vehicles lose value is greatest in the first year of ownership, where the average new car loses 23% of its value in just the first 12 months. If you want to avoid being upside-down on a car loan, a new car may not be the best choice for you.

Buy Vehicles With The “Best Value”, Not The “Best Price”

cars with the best resale value

Buying new is nice, but financially, it can set you back. On the other hand you can buy an old clunker, but risk throwing money at repairs. So, where is the sweet spot? Our recommendation is that you should buy a vehicle that is between 2 and 4 years old, is still under its factory warranty, has plenty of useful life left in it, and still looks and drives like new. An average car or truck will decline 38% in value in the first three years, so buying one in this range offers savings of 30-40% off its price compared to new.  In other words, someone else’s loss can be your savings.  

It also helps to buy a car (whether new or used) that has a good resale value. Research depreciation, maintenance costs, and more with the free CarEdge Research Hub.

Don’t Be Lured Into Longer Loans

In years past, a 5-year loan was the longest loan term offered by lenders. Today, car buyers are lured into the prospect of lower monthly payment; not by getting a better price, but by just stretching out the time period to pay off the vehicle.  Loans of 6, 7, and even 8 years, are now common in vehicle financing. This is a dangerous path that car buyers should try to avoid. Learn more about the serious risks of 84-month car loans.  

Credit Scores And Interest Rates Drive Monthly Payments

As most are aware, lower credit scores translate into higher loan interest rates, and as a result, higher monthly car payments. As a car shopper, you’ll want to check your credit report ahead of time. Make sure that the report is accurate, and doesn’t have any errors. Importantly, the lower your interest rate, the quicker your loan balance will fall, and the less likely that you’ll be upside down.  

Big Down Payments Can Avoid Big Loan Problems

If you have the financial flexibility, one of the best ways to ensure that you’re not upside down in a car loan is to make a big down payment when you buy. Another option is to make a larger down payment when you refinance your auto loan.  

The more money you put down, the lower your loan balance, and the greater the chance that you won’t have an upside-down car loan. Better yet, your monthly payments will be lower with a larger down payment. Those who put down little or no money for a down payment increase their chances that they will be upside down in their loan for years to come.

Final Thoughts: You CAN Avoid Upside-Down Car Loans

Staying financially “right side up” with your car loan comes down to smart choices: avoid long loan terms, consider buying a used vehicle with solid resale value, and put down as much as possible upfront. By being aware of depreciation, improving your credit score, and securing a favorable loan, you can reduce the risk of an upside-down car loan. With the right approach, you can drive away with a deal that works in your favor.

Download our Negative Equity Report for more information.

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Last updated Oct 8, 2024

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