Negative equity results when the value of your car cannot cover the remaining balance of your auto loan. It can be difficult to escape, especially if you have financial problems. However, understanding how negative equity works and taking proactive steps to get back on track can help you get on the right path and meet your financial goals.
This guide explains negative equity, how it occurs, and how to get out of it on your way toward financial health.
What is Negative Equity?
Negative equity on a car occurs when the vehicle owner owes more on the auto loan than the car is worth. It can be a problem and poses a higher risk when you want to sell or part-exchange your car. If you want to sell or trade-in your vehicle with negative equity, you must pay off the remaining auto balance before taking out a new loan to buy a new car.
Fortunately, you can use several strategies and financial incentives to get out of negative equity in Canada.
How a Car’s Negative Equity Occurs.
Many Canadian car owners find themselves in a negative equity situation in many ways. For example, you may end up in negative equity if you:
- Purchased an expensive car that didn’t hold its value as expected.
- Took out a loan with a higher interest rate. Therefore, more of the repayment amount goes to the interest rate than the principal.
- Accepted a longer loan term, the car has significantly depreciated from purchase.
- Included add-ons and paid above the car’s sticker price.
An example of negative equity on a car:
Assume you paid $60,000 for a new car in Canada. Following the 25% depreciation rule, the car should be worth $45,000 one year later. If you made a down payment of $8,000 on the $60,000 auto loan, you would still owe $52,000 to the loan, which puts the loan at $7,000 more than the car’s worth after one year. As such, you’ll still need to make the $7,000 repayment even if you sold your car at the depreciated value.
How to Get Out of Negative Equity
There are some options and considerations to get out of negative equity. The best option for your current financial situation depends on your budget and whether you want to keep your car.
Pay Off the Loan.
This may be the most obvious solution, but also the most challenging. Many Canadian car owners make minimum payments on their auto loans to avoid infringing on the loan terms and conditions. However, paying off your loan quickly will help eliminate your debt faster.
Making extra monthly payments, even smaller amounts over the minimum amount, is an effective solution for staying on top of your loan. These extra payments will go to your loan principal, turning negative equity positive much faster and making selling or trading in your car easier
Refinancing
Refinancing your auto loan will also help you pay off existing debt faster. Look for new loans from lenders who offer lower interest rates on their loans. It is also important to note that refinancing your auto loan doesn’t eliminate the debt. You will still owe the loan balance you refinanced.
Sell Your Car
Alternatively, you could sell the car to get extra cash to pay off the auto loan and negative equity balance. But always try to get enough from the sale to pay off your negative equity. Or you’ll still need to make up the balance out of pocket after the sale.
Resolve Your Car’s Negative Equity Today.
Negative equity can be frustrating, especially when purchasing a new car, but it is not impossible. These strategies should help resolve negative equity, no matter your current equity of credit situation. The bottom line is to ensure your financial health and be able to repay your auto loan without getting into negative equity. Get in touch for more information and guidance on negative equity and car financing.
