What is an upside down loan and how to avoid it

By Sarah R
Modified on April 24, 2023
upside down in a loan

Do you think you’ve found yourself upside-down in a loan? When a loan is upside-down, it means that the loan principal is more than the value of whatever the borrower purchased with that loan. Auto loans are the most common type of loan that can end up in an upside-down state. 

What Does Upside-Down in a Loan Mean?

Upside-down loans are usually in reference to the state of an individual’s car loan. Being upside-down on a car loan means a vehicle owner’s car is worth less than their remaining loan balance. Another way to think of an upside-down car loan is to think of a person’s vehicle having negative equity. Negative equity in a car means that the vehicle’s market value is worth less than the remaining balance on the vehicle owner’s car loan. Vehicles that have positive equity are worth more than the car owner’s current car loan balance.

Why You Might Have an Upside-Down Car Loan 

How might someone end up with upside-down auto loans? Below are some common reasons why people may find themselves dealing with upside-down car loans. 

You Got a Bad Car Loan Deal

A car loses 20% of its value as soon as it’s driven off the lot, so getting a good deal on a car purchase is important if you want to avoid an upside-down loan. Before purchasing a vehicle, check its value to ensure the offering price is appropriate. If you don’t do research before buying a vehicle, even if it’s in a private sale, you may end up with a purchase price that is unmanageable. 

You Didn’t Make a Down Payment

Some car dealerships try to entice consumers into car purchases with flashy zero money-down offers. While this may seem convenient upfront, it will cause your principal auto loan balance to rise significantly, causing the loan to take longer to fully pay off. 

High-Interest Rates on Auto Loans

Interest costs are one of the most common reasons people end up with upside-down auto loans. If your interest rates are extremely high, you may end up with a balance that actually increases each month. 

You Extended the Terms on Your Car Loan

The longer you take to pay off your auto loan, the more your car will depreciate in value before you pay it off. If you extend the terms on your auto loan to make your monthly payments more manageable, you may be putting yourself at risk for upside-down auto loans. 

You Were Enrolled in a Car Loan Rollover Program

Similar to extending payback terms, rollover programs also lengthen the time it takes for borrowers to pay off their loan balances, increasing the chance that their loan will become upside-down.  

You Bought a Car That Was Too Expensive

Luxury vehicles are nice, but they aren’t for everyone. Suppose you purchased a vehicle that was well outside of your budget. In that case, you might have a difficult time paying it back—purchasing a vehicle that is too expensive increases the likelihood of you extending your loan terms or making other moves that will delay the payoff of your auto loan. 

How To Calculate the Equity in Your Vehicle

How can you tell how much a car is worth? Fortunately, there are several sources consumers can access that will give them an idea of a car’s value. Sources like the National Automobile Dealers Association or Kelley Blue Book are both resources that can give you an accurate depiction of a car’s equity. 

To get the most accurate estimate of a vehicle’s value, check multiple sources and then average out the values. 

What To Do When You Have an Upside-Down Auto Loan

If you find yourself in a situation where you have an upside-down auto loan, it’s important to act quickly. The faster you rectify the problem and get your finances back in order, the better! 

Determine How Much Negative Equity You’re Dealing With

The first step in getting out of an upside-down auto loan is to determine how much negative equity the vehicle actually has. To calculate the negative equity, compare the value of your vehicle against how much you currently owe on it; the difference is the negative equity. 

Reach Out to Your Auto Lender

Next, contact your lender and update them on your situation. Discuss the repayment options on your existing loan and see what your lender can do for you. 

Below are a few options you may consider: 

  • Auto Loan Refinance – Consider refinancing your existing car loan for a new car loan. You may be able to get an auto refinance via financial institutions like a credit union, bank, or private direct lender. 
  • Sell Your Vehicle – You may want to consider selling your car if you think you can sell it for a majority of your auto loan balance. If not, you will be left to pay the difference to officially be clear of your upside-down car loan. 
  • Debt Consolidation Loan – If you have other debts besides your upside-down vehicle loan, consider a debt consolidation loan. A personal loan from a direct lender can be a great way to reduce the amount of payments you make each month on your debts. However, beware of predatory lending products such as instant payday loans online.
  • Voluntary Surrender (Last Option Only) – As a last resort, you may also consider simply giving your vehicle back to the dealership/lender. This action would offer you no money and leave you without a car, which is why you should only voluntarily surrender your vehicle when there is absolutely no other option left.

Don’t Stop Making Your Monthly Auto Loan Payments

Lastly, do not stop making your monthly car payment while you figure things out. Missed payments on your auto loan will not only put you deeper into your upside-down loan, but it will also have a negative impact on your credit report. Just one missed payment can affect your credit score for up to seven years! 

8 Tips To Avoid an Upside-Down Car Loan

Save yourself a world of hassle by avoiding getting into an upside-down car loan. Below are eight tips you can utilize to avoid ending up with negative equity on your vehicle. 

Finance a Car That Is Within Your Budget

Set yourself up for success by purchasing a vehicle that is within your personal budget. Take a look at your yearly budget and existing expenses. From there, you can determine how much money you have left over for a car purchase, down payment, monthly installment, etc. Then, you can search for a vehicle specifically within your price range. 

You may also consider leasing a vehicle instead of outright purchasing one to save money on your monthly payment. 

Say No To Unnecessary Add-ons

Don’t let a slick salesman talk you into purchasing add-ons you don’t really want or need. Extras like sunroofs, heated seats, luxury radios, and more can add easily add thousands of dollars to your total auto loan balance. Before you agree to any add-ons, think about it and ask yourself if they are worth the extra money. 

Pay Fees Upfront

Car dealerships often include extra fees in an initial auto loan contract. Car taxes, dealer fees, or insurance costs are all charges car buyers may have to deal with. Instead of letting these fees sit and rack up interest charges on your auto loan, pay them right away so they can’t hold you back! 

Get a Lower Interest Rate

Interest rates have a significant impact on any type of funding, including car loans. The lower your interest rate, the less money you will have to pay in addition to your base car loan principle. When setting up your car loan agreement, negotiate with your lender to get the lowest interest rates possible.  

Don’t Choose the Longest Repayment Term

Having long loan terms with small monthly payments may seem like a convenient way to set up your car loan contract, but this may hurt you in the long run. Instead of going with the longest terms possible, first, decide what you want your monthly payment to be. Then, find loan terms that will result in your desired monthly payment. 

Work on Improving Your Credit Score

Lenders typically reward consumers who have a good credit score. If your credit has significantly improved from when you first started your car loan, you may be able to refinance and get a new loan deal with better terms and rates.

Pay a Higher Down Payment

Save even more money on your auto loan by paying a higher down payment. The more money you contribute to your car loan balance upfront, the less funding there is to charge interest on. 

Pay More Than Your Minimum Amount Due Each Month

You may also consider making higher monthly payments or extra payments throughout the month on your car loan. Similar to contributing a higher down payment, by paying more than your minimum amount due each month, you are reducing the amount of money your lender may use to calculate interest payments. 

The Bottom Line: Upside-Down Car Loan

Having negative equity in your vehicle isn’t an ideal situation, but there are steps you can take to rectify the situation quickly. With options like refinancing, debt consolidation, and vehicle sales, people may get out of an upside-down car loan. 

You can also check out the CreditNinja blog for more free financial resources on car loans, consolidating debt, and more! 

How to Get Out of an Upside Down Car Loan & How to Avoid |
Upside-Down Car Loan: How You Can Improve The Situation |
What To Do If You Have an Upside-Down Loan |The Balance Money

Read More
Several types of lenders specialize in easy loan approval for bad credit borrowers. These loans may not require a credit check or may have loose…
personal loans 700 credit score
A good rate for your personal loan will depend on your specific financial situation. While you may be eligible for several different types of personal…
2000 loan for bad credit
You can borrow up to $2,000 from personal loan options, some payday lenders who offer payday loans, title lenders, or possibly a pawnshop lender. Some…
loans like uprova
Uprova is an online lender that offers installment loans. Many low-credit borrowers apply with Uprova online, but is this the right choice for you?  Are you…

Quick And Easy Personal Loans Up To $2500*