How To Get Out of An Upside Down Car Loan

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I was looking at my blog stats one day and saw that there were numerous searches from people looking for information on how to "get out of an upside down car loan" and whether or not they "should pay off my car loan". 

Unfortunately, I have to say that there is no quick and easy way to do either if you don't have a pile of cash sitting around to do it. When I paid off my car loan, that I was seriously upside down on, I pulled money from my savings account and paid it off eliminating two problems at once. I was no longer upside down and a I no longer had a car payment draining my finances each month. After the car loan was gone, the money I used to send to the finance company started going to rebuild my savings account. Believe me, not having to make a $556 car payment each month is a big relief and now that I am free of a car payment, I never want one again.

How do you get upside down in a car loan?

There are a few main reasons you end up upside down in your car loan. You either financed too much, financed the car too long or you traded in a car with a balance and rolled the old balance into your new loan. 

Once you drive off the lot, your brand new car starts to depreciate; no matter what kind of car it is. New cars can depreciate by as much as 40% in the first year. Unfortunately, car values fall much quicker than your loan balance and leave you owing more than the vehicle is worth (negative equity).

Back when I was in my twenties, I used to buy a new car every two years (pardon me while I kick myself in the a**). Each time, I would roll in the negative equity from the previous loan and get further and further in the hole. I finally paid off my loan but I can't even imagine how much money I threw down the tube just to have a new hunk of metal that got me from point "A" to point "B" the exact same way the old one did.

But how do I get rid of my upside down car loan SingleGuy?

My recommendation is to first figure out how much you are upside down. You can do this by going to NADA, Kelley Blue Book, Autotrader, checking your local classifieds or even checking with local dealers to see how much cars like yours are selling for. 

One word of caution, when using NADA or Kelley Blue Book, make sure you rate the proper condition of your vehicle. If your vehicle has a huge dent in the quarter panel, do not rate your vehicle as excellent. Once you know how much your vehicle is worth, find out what the payoff on your vehicle is. Once you have those two numbers, subtract the value from your payoff and presto - you now know the ugly truth of how much negative equity you have. 

Example: Vehicle Value $10,000 - Loan Payoff Balance $15,000 = $5,000 (negative equity or amount you owe over the value of the vehicle).

Now you know how much you owe over the value of your vehicle, you have a couple of options:

1. Sell It. If you can do without the vehicle and sell it at a fair price, do it. Some financial experts, such as Dave Ramsey, recommend financing the difference. I can see his way of thinking since I would rather be $5,000 in debt than $15,000 using the above example. I just don't think it will be that easy to go and get an unsecured loan if you have a large balance remaining once you pay off the vehicle. Hint: You usually get more money by selling to a private party vs. a dealership. 
   
2. Pay it off. If you have extra money remaining each month after all your necessary bills (rent/mortgage, utilities, insurance, savings) are paid, throw that toward the car loan. Once the loan is paid off, you no longer have to worry about negative equity and you can use the car payment you were making to the finance company to build your savings so you can pay cash for your next vehicle. 
   

Now for those of you that want to know if you should pay off your car loan:
I can't answer that without knowing the details of your finances. It may make sense for you to pay off the car loan or it may make sense for you to use the money elsewhere. It all depends on your individual finances. 

I can tell everyone though, the best way to avoid a car loan and being upside down is to never finance another vehicle again, never buy new and pay cash if you can. If this is not a possibility, make a large down payment and finance the vehicle for no longer than 3 years. If you can't afford the payment on a 3 year car loan, you probably shouldn't buy the car. 



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