What Is Negative Equity on an Auto Loan?

An individual who purchases a new car with no down payment and finances it over many years can end up having negative equity.

Definition

Negative equity, also known as being upside-down in a loan, is when an individual owes more on a car loan than the vehicle is worth.

How To Avoid

To avoid negative equity, an individual should have a down payment of at least 20 percent when purchasing a new car. Also, financing the vehicle for less than three years or paying cash can help avoid negative equity on an auto loan.

Solution

A consumer who has negative equity can pay more than the minimum amount each month on the auto loan to eliminate the negative equity.

Trade

If a vehicle is traded in within two to three years and there is a remaining two to three years on the loan, the negative amount will be rolled into the new car loan. This will leave a person with negative equity in the new car.

Accident or Theft

Negative equity also affects a person if a car is totaled due to an accident or theft. To avoid owing on a loan when a car is totaled by the insurance company, some banks offer GAP protection. This will pay the difference in the loan balance and the amount paid by the insurance company.