Auto Trade-Ins and Negative Equity: When You Owe More than Your Car is Worth

How Negative Equity Works With a Trade-In

With rare exceptions, cars decrease in value with age. Depending on other factors, like accidents, repairs, or other damage, the value of a car may decrease even faster. If you borrowed money to buy a car, you might owe more on your car loan than its current value. When that happens, you have negative equity in the car. Some car dealers say you won’t be responsible for the remaining balance on your old car loan when you trade in your old car. But that might not be true. Dealers sometimes just roll over the negative equity into your new car loan, so you still end up paying it.

Example

Say you want to trade in your car for a newer model.

• Your loan payoff is $18,000
• Your car is worth $15,000

You have negative equity of $3,000. That must be paid if you want to trade in your vehicle. If the dealer promises to pay off the $3,000, it shouldn’t be included in your new loan.

But some dealers

• add that $3,000 to the loan for your new car
• subtract the amount from your down payment
• or do both

Either way, this increases your new loan amount and its monthly payments: not only would the $3,000 be added to the principal, but you’d also be financing it (along with the new car).

Understanding how negative equity works in a vehicle trade-in can help you make a better informed decision about buying and financing a car. It also helps you recognize if claims in car ads that promise to pay off your loan are misleading.

How to tell if your negative equity is part of your new car loan

Before you sign a financing contract, the dealer must give you certain disclosures about the cost of that credit. Read them. Look for details about the down payment and the amount financed on the installment contract. Make sure you understand how your negative equity is being treated before you sign the contract. Otherwise, you may wind up paying a lot more than you expect.

Look for a section on your contract with this information:

Down Payment

A. Gross Trade-In Value

B. Less Prior Credit or Payoff by Seller

C. Net Trade-In (A less B) (indicated if a negative number)

D. Deferred Down Payment

E. Manufacturer’s Rebate

F. Other: _______________________________________

G. Cash Total Down Payment (C through G)

Dealing with Negative Equity

Here are some steps to take if you think you might have negative equity in a car you’d like to trade in:

• Find out what your current vehicle is worth before you negotiate the purchase of a new car. Check the National Automobile Dealers Association’s (NADA) Guides, Edmunds, and Kelley Blue Book.
• If you have negative equity in a car, either because of your current car loan or a rollover from a previous loan, consider these options:
  • wait to buy another car until you have positive equity in the one you’re still paying for. For example, consider paying down your loan faster by making additional, principal-only payments.
  • sell your car yourself. You might get more for it than what a dealer is says it’s worth.
  • ask the dealer how they’ll handle negative equity, if you decide to go ahead with a trade-in. Read the contract carefully. Make sure any oral promises are included. Don’t sign the contract until you understand all the terms and the amount of your monthly payment. o negotiate your new loan for the shortest time frame you can afford, especially if the negative equity amount is rolled into the new loan. The longer your loan term, the longer it will take to reach positive equity in your new car.

Report a Problem

For problems with dealer advertising and sales and finance contracts, contact:

• the Federal Trade Commission at ReportFraud.ftc.gov
• your state attorney general

Check out other FTC articles about buying and owning a car.