Negative Equity On An Auto Loan: All You Need To Know

Negative equity occurs when the value of the vehicle falls below the amount you owe on your current auto loan. For instance, if the remaining payments on your auto loan amount to $20,000 and your vehicle’s market value is $15,000, you have a negative equity of $5,000. This sticky situation is also referred to as being “upside down” on your car loan.

Negative equity can also affect you’re your ability to sell off your vehicle or trade it in for a new one. Over the course of this blog, we’ll tell you all you need to know about negative equity and how you can get yourself out of this sticky financial situation.

How Negative Equity Works

As purchasing an automobile is a large investment, most people secure an auto loan so they can pay off the amount in increments, rather than a lump sum. Cars also depreciate like a stone these days, especially brand new ones. As a result, car owners often end up with a negative equity. However, negative equity isn’t much of an issue if you plan on keeping the vehicle long term.

As you continue to make payments on your auto loan, the amount you owe will eventually level out with the market worth of your car. But, negative equity can potentially pose a problem if you plan to sell or trade-in the car. If you sell a car for less than what you owe, you’ll end up having to pay the difference to close out your loan.

Common Reasons of Having a Negative Equity

From purchasing a vehicle they can’t afford to getting stuck with a double-digit interest rate, here are some of the most common reasons why people end up with a negative equity on their vehicle:

  • Buying a Car You Can’t Afford: Quite a lot of people, especially first time car buyers, get carried away in the moment when buying a new car. They end up ticking all the expensive gadgets in the options list which take the final price of the car way beyond what they can afford to pay off. A good rule of thumb is to buy a car whose payments don’t exceed 10% of your total paycheck.
  • You Avoided a Down Payment: Another major reason why people end up with a negative equity is because they avoided putting down a down payment when they purchased the car. As you’re financing the whole value of the car, you make a loss as soon as your new car’s tires first hit the pavement (because of depreciation).
  • Having a High Interest Rate or a Loan Term that is Too Long: New vehicles are now purchased every 3–4 years while the average term of auto loans is now more than 6 years, according to a report from the Financial Consumer Agency of Canada. While having a longer loan term can seem attractive because of the prospect of lower monthly payments, however, you’ll be paying a lot more as a whole because of higher interest payments. Poor credit can also result in a higher interest rate.
  • Combining a Previous Auto Loan with Your Current One: Rolling an existing auto loan into a new one might seem like a good short-term solution to lightening your financial burden. However, you may find yourself facing a mountain of debt which keeps on growing. Doing your homework is a must if you’re planning to combine two auto loans into one. Perform a careful assessment of your finances to ensure that you can afford to pay off a bigger loan before you make this decision.

How You Can Get Out of a Negative Equity Auto Loan

So what do you do when you find yourself underwater on your auto loan? Sadly, there’s no one-size-fits-all fix for this sticky financial circumstance. For most car owners, having to deal with a negative equity vehicle is like being stuck between a rock and a hard place. They’re generally torn between two unpleasant options:

  • Continuing to make payments while simultaneously losing equity
  • Deciding to sell the car and stomach the loss

However, there are other ways of getting out of this undesirable situation. Although repaying your auto loan in full may be inevitable, there are different ways you can deal with negative equity, with some being better than the others. Which course of action is best for you ultimately comes down to your budget, your credit history and your ideal loan-term length.

We have identified six steps which can help you extract yourself from the financial mess created by a negative equity auto loan.

Calculate the Negative Equity

Your first step should be to determine exactly how far below the surface you are. It’s pretty simple to calculate the exact amount of your negative equity. Just subtract the estimated market value of your vehicle from the current amount you owe on the auto loan.

Not sure of your car’s actual value? Well, you can always check legitimate online resources such as CARFAX Canada. As there’s no single ultimate authority on used car evaluations, checking from multiple resources can help you gain a better idea of what your vehicle is actually worth.

Once you have determined the amount you have in negative equity, you’ll probably consider refinancing or selling. But before you do either, assess your finances to see if it’s possible to pay off the amount in full. If it’s within your means, we’d advise you to pay off the amount in full rather than taking on additional debt and placing your other assets in jeopardy.

Talk to Your Lender

If your finances don’t allow you to pay off the negative equity in a lump sum, there are still other solutions which you can consider. The next thing to do is reaching out to your lender. Talk about your situation in detail and ask them if they can provide you with viable options to turn the situation around. Even if they say there aren’t any options, there is no harm in asking.

If you think there’s space within your budget for making extra monthly payments towards your principal, ask your lender if it’s possible to set up this option. In addition to helping you getting out of debt faster, extra payments can also enable you to reduce the outstanding balance at a pace which outstrips your vehicle’s devaluation.

Although the negative equity still has to be covered, managing to keep hold of your vehicle and getting out of debt goes a long way in rectifying the situation. While you’ll be facing a greater financial burden in the short term, you’ll still have some equity left for when you decide to purchase your next vehicle.

Take Out a New Loan

Is your lender unable to provide you with any options that can help you overturn your negative equity? Well, you haven’t run out of options yet! If you have a positive credit history, refinancing at a lower interest rate could be the way to go.

However, if you’re considering going down the refinancing path, it’s imperative that you carefully assess options and identify the loan terms which are right for you. Although a longer loan term with lower monthly payments may seem attractive, remember that it could result in more negative equity as you’ll be in debt for a longer period.

Cars depreciate at lightning quick rates and can lose about 50 to 60% of their value in just 5 years. In fact, most cars lose 11% of their value as soon as they are driven off the lot, according to Trusted Choice. Therefore, you have to be quick in paying off the loan if you want to avoid ending up with a negative equity vehicle.

Think About Getting Rid of Your Car

According to Edmunds, the best way to deal with a negative equity auto loan is to forget about buying a new car and stick with the one you have. However, if you have considered all other alternatives and you still can’t keep up with your vehicle’s devaluation, it may be best for you to let go of it.

If your mind is set on selling the car, try to get the highest price you can. This will help reduce the outstanding balance left on your loan. Making improvements to your car such as fixing mechanical issues and detailing the exterior can help you attract better offers. But if you’re on a tight leash budget wise, even a simple wash and wax can help make a good impression on potential buyers.

Trading in your car for a brand new ride might seem to be tempting as its much less of a hassle. But, private listings typically bring in a lot more trade-ins.

Also, you shouldn’t forget that the outstanding balance on your auto loan still has to be covered. Although the remaining balance can be added to your new car loan, be aware that it will increase the chances of ending up upside down on your auto loan again.

If you’re leaning on making a private sale, we’d recommend you use online resources. In addition to allowing you to save time and money, online resources such as will help you reach the highest number of potential buyers. Furthermore, reaching out to your social network and posting ads in the classifieds can also be effective.

Another way of getting rid of your negative equity car is to trade it in for a leased vehicle. This way, your outstanding loan amount can be factored into the lease. While it might not be the best option, when you lease a car, you don’t have to stress out about resale value and depreciation. This is because the vehicle goes back to the dealership at the conclusion of the lease.

Whichever way you opt to go; bear in mind that you still have to cover for your accrued negative equity.

Shift Your Debt

Moving your auto loan into a home equity loan or a low interest line of credit is also a viable option. Although this doesn’t provide an indefinite solution to the problem, shifting the debt can reduce the financial burden of making the payments in the interim.

Find Extra Income

A little extra income can enable you to pay off your auto loan quicker. Perhaps you can get a side job or sell some of your sports equipment which is sitting in the garage gathering dust.

The Takeaway

Freeing yourself from the trap of a negative equity auto loan can be quite a stressful challenge. When identifying ways of getting out of an auto loan, it’s important to avoid acting on impulse. Trading-in your car is a quick way to get a new ride but it’s not going to get you out of completing the payments of your loan. Rather than looking for a short-term fix, carefully assess all your options before to identify a repayment strategy that is best for you.

This could mean reaching out to your lender for a modified repayment plan or asking them for a refinanced loan. It could also mean paying off the entirety of your negative equity in one go or choosing to go with a lease so you can avoid facing the same issue again.

Whichever strategy you opt for, understanding the options you have can help you make an informed decision.

How to avoid Negative Equity on Your Car

The best way to avoid going upside down on your auto loan is to do your research and assess your finances before you make a buying decision. If you want help with your auto loan in Canada, get in touch with us at MyRide! Our wide range of services include guiding first time buyers through the car financing process and helping car buyers repair bad credit with the right car loan.