What is negative equity in an auto loan?
If you owe more on your current auto loan than the vehicle is worth—referred to as being “upside down”—then you have negative equity. In other words, if you tried to sell your vehicle, you wouldn’t be able to get what you already owe on it. For example, say you owe $10,000 on your auto loan and your vehicle is now worth $8,000. That means you have negative equity of $2,000. That negative equity will need to be paid off if you want to trade-in your vehicle and take out an auto loan to purchase a new vehicle.
Understanding how negative equity works can help you make a better informed choice about a new auto loan. The longer your auto loan, the more likely you are to have negative equity for a longer period of time. On a longer term loan, you might later still owe money on a vehicle that has outlived its useful life or that you want to sell or trade-in. If you want to roll the balance of your existing auto loan into a new auto loan, this could make the new auto loan much more expensive. Additionally, you will be borrowing more than the price of your new vehicle which will make your total loan cost higher and increase your risk of negative equity in the new vehicle.
If you do roll the balance of the old loan into a new loan for a new vehicle, ask questions. Make sure that you understand the total cost of the new loan. You need to know the amount borrowed, the APR and interest rate, the loan term (in months), and the monthly payment – before you agree to anything. If your new loan does not cover the amount you still owe on your old vehicle then you could have two loans and two monthly payments to make. If your new loan does cover what you still owe on your old vehicle, you could be borrowing a lot more than the price of the new vehicle. Either way, you may want to carefully consider whether it makes sense to go through with the transaction and purchase the next vehicle if you still owe money on your trade-in.