If you have a car loan, you may have heard of negative equity. Negative equity simply means that you owe more on your auto loan than your vehicle is worth. Negative equity isn't ideal, but you can reduce the stress and shorten the time you spend with it in a few simple ways.
Why Do I Have Negative Equity?
At some point during a car loan, just about everyone experiences negative equity. Typically, this happens at the beginning, especially with new vehicles, because the steepest drop in depreciation occurs during the first year. Depreciation lowers the value of a car over time as it ages and its mileage increases, and it can't be stopped.
Besides depreciation, there are a number of other things that can drive up the cost of a loan, widening the gap between the vehicle's actual cash value (ACV) and what is owed.
Here are five items that could help cause negative equity:
- Low down payment – One of the best ways to close the gap between a car's ACV and the loan balance is to make a significant down payment. So, if you only make a small – or no – down payment up-front, you're allowing the gap that can cause negative equity to stick around.
- Vehicle cost, extras, and fees – Anything you do to raise the initial amount of the loan can push you further into negative equity and keep you there longer than planned. This can include add-ons offered by the dealership such as accessories and extended warranties, or taxes and fees that you rolled into your loan instead of paying up-front. Taxes, fees, and add-ons aside, the price of the car could contribute to negative equity if you paid too much for one that doesn't hold its value.
- High interest rate – The higher your interest rate, the more you're going to end up paying on your loan. If you're financing with bad credit, you're likely to have a higher APR. Though you can't control the interest rate you qualified for, you can research the typical interest rates offered to people with similar credit.
- Long loan term – Auto loans need to have a balance; if you focus on only the monthly payment, your loan term could end up being years longer than necessary. Longer loan terms mean lower payments, but also lead to more time spent with negative equity, because you're not closing that gap between the ACV and loan balance as quickly.
- Previous negative equity – When you roll negative equity forward, you add money owed to your original lender. Now that amount is added to the new loan, and you're now paying on both, plus interest. The bigger loan makes it more difficult to close the gap between vehicle value and the loan balance.
Don't Live with Negative Equity
Just because negative equity is common doesn't mean you have to live with it! Here are a few easy ideas you could use to stay on track and shorten your time underwater:
- Make a larger down payment – You can't get around the down payment requirement if you need a bad credit car loan, and making the biggest one you can afford can help you shorten the time your vehicle spends upside down.
- Don't finance unnecessary add-ons – This doesn't mean you can't get the things you want in a car, just choose carefully when you're adding to the cost of financing. Many of the additional accessories dealers offer can often be purchased at a lower cost elsewhere, without having to increase the cost of your loan.
- Make extra payments whenever you can – This is one way to close the gap between vehicle value and what you owe.
- Pay every two weeks – If you make a half payment every two weeks, you end up making 13 full payments a year instead of 12.
- Refinance – If it's been more than a year since you took out your auto loan, your credit has improved, and you're at least at the break-even point where your car’s ACV is the same as the loan balance, you may be able to refinance for a lower interest rate. A lower interest rate also means you spend less in the long run.
Get the Loan You're Looking For
Now that you know what you can do about negative equity, and how to avoid it in the first place, it's time to find a dealership in your area that can help get you the financing you're looking for.
Auto Credit Express can help; over the last 20 years, we've helped hundreds of thousands of people across the nation find dealers that work with credit-challenged borrowers to get them financed. Simply fill out our easy, fast, and free auto loan request form, and we'll get to work matching you with a local dealership.