Can You Refinance An Upside Down Car Loan?

Most people can’t afford to pay for a vehicle in cash, which is why so many consumers choose to finance their purchase instead. Taking out auto loans is incredibly common in the U.S. In fact, the auto loan debt held by consumers in the U.S. now exceeds $1.42 trillion. Unfortunately, upside down car loans are also common.

A car loan is considered “upside down” or “underwater” when you owe more on the vehicle than it is worth. For example, if your vehicle’s resale value is $15,000 but you owe $17,000 on it, this means you are upside down on your car loan. This is also referred to as having negative equity in your vehicle.

Having an upside down car loan can be an issue in certain situations. For instance, say your vehicle is totaled in a traffic accident. Your insurance company will only cover the vehicle’s value, so if you’re upside down on your loan, you may owe your lender money even after you are compensated by your insurer.

If your auto loan is upside down, it’s important to understand how it happened and more importantly, what you should do about it. Can you refinance an upside down car loan? What are your other options? Here’s what you should know:

How Can You Get Upside Down On Your Car Loan?

There are a number of reasons why you may be upside down on your car loan, including:

• You didn’t put any money down on the vehicle. New cars lose about 10% of their value in the first month of ownership, so if you didn’t put any money down on your vehicle, you will quickly be upside down on your car loan.
• You chose a loan with a long term. Loans with long terms are appealing since they typically have lower monthly payments. However, if you’re still making payments on a car that is more than five years old, your payments aren’t enough to match the vehicle’s depreciation, so you’ll be underwater on your loan.
• You paid too much for your vehicle. It’s important to do your research before buying a new car. If you pay $30,000 for a vehicle that is priced at $25,000 everywhere else, you could be upside down on your car loan the second the transaction is complete.
• You added a lot of upgrades to your vehicle. Auto dealerships typically pressure customers into paying for sunroofs, extended warranties, and other upgrades when buying a vehicle. Adding these upgrades increases the cost of the vehicle, but not necessarily the resale value. If you paid for these upgrades, you may be upside down on your car loan as a result of this decision.

What Should You Do If You’re Upside Down On Your Car Loan?

There are several ways to deal with an upside down car loan. Some of your options include:

• Continue Making Payments
• Make Additional Payments
• Sell Your Vehicle
• Refinance Your Auto Loan

Continue Making Payments

Your first option is to continue making payments on your auto loan as you normally would. If you choose this option, it’s best to continue until your auto loan is completely paid off. This way, you will own the vehicle and will be able to sell it in the future without worrying about getting enough money to pay your lender back.

It may take a lot of time to pay off your auto loan with this option, but it’s something you should consider if the other options on this list won’t work due to your current financial situation. 

Make Additional Payments

The first option is to continue making the minimum required payment on your auto loan every month. However, the second option is to make additional payments on your auto loan. In other words, pay more than the minimum amount every month.

Any additional money you pay will go toward your loan principal, which is the money you borrowed. The more you pay, the faster you can build equity in your vehicle.

One way to do this is to round up to the nearest $50 every month. For example, if your monthly payment is $325, pay $350 per month instead. Paying an extra $25 per month may not seem like much, but it will make a big difference in helping you get out of an upside down loan.

You could also make one lump sum payment to pay off your negative equity. However, this may not be feasible for some people. If you plan on making a lump sum payment, check with your lender first to make sure you won’t be charged a prepayment penalty.

Sell Your Vehicle

Another way to get out of an upside down loan is to sell your vehicle. If you choose this option, it’s important to remember that you may owe your lender money after you sell your vehicle.

For example, say you owe $10,000 on your vehicle, but you are only able to sell it for $8,000. Even though your vehicle sold for $8,000, you still owe your lender the full $10,000, so you will need to pay the $2,000 out of pocket. Keep this in mind when setting a sales price for your vehicle.

Trading it in at a dealership is the easiest way to get rid of it. However, a dealer won’t pay as much for your vehicle as a private party, so you may want to consider selling it on your own instead. The higher the sales price, the less you will owe your lender. 

Refinance Your Auto Loan

Your final option is refinancing your auto loan. Refinancing is a process that involves taking out a new loan to pay off and replace your existing loan.

Refinancing may help you secure better loan terms, which could help you get out of your upside down loan much faster.

For example, refinancing may help you secure a loan with a lower interest rate. The lower the interest rate, the less you will pay in interest over the course of the loan. Because you won’t have to pay as much in interest, you may be able to make larger payments on your principal and build your equity at a much faster rate.

Some lenders will not refinance an upside down loan. It’s important to shop around to ensure you find a lender that is willing to refinance your upside down loan and offer more favorable terms.

Should You Refinance Your Upside Down Car Loan?

Refinancing is not right for everyone. If you’re upside down on your car loan, you may want to consider refinancing if:

• Interest rates have dropped. Keep an eye on interest rates. If the rate has dropped since you initially took out your auto loan, now is a good time to refinance.
• Your credit score has improved. If your credit score has gone up since you initially took out your auto loan, you may qualify for more favorable terms now, which means refinancing might be the best option for you.
• You didn’t shop around. Experts recommend shopping around for the best rate when you take out a car loan. If you didn’t follow this advice, you may not have gotten the best terms when you took out your auto loan. Refinancing could help you remedy this mistake.

Refinancing is one of many options you have if you’re upside down on your car loan. Weigh the pros and cons of each option before deciding which one is right for you.