Help! I Owe More On My Car Than It’s Worth!

“Michael” writes in with a common question:

What do you do when you find your car is worth less than you owe on it?

This is a pretty common question, particularly given the current state of the economy. Some people are out of work. Others are looking to seriously cut back. Thus, there are a lot of people out there that would like to get rid of their current car loan – but they’ve found that their car is worth less than they owe on it. Often, there’s not enough cash laying around to make up the difference, either.

So what do you do? I see a handful of options.

Ask yourself if you really need to change cars. Many people who are underwater in their car loans are looking at upgrading their car. If you’re in this situation, spend some time asking yourself if you really need to make a change. Would this upgrade serve any purpose other than aesthetics? If there is a purpose beyond that, is it worth the huge amount of debt you would incur?

Delayed gratification is the key here. If you can put off the purchase for even a year or two, you’ll end up in substantially better financial shape than if you pushed things right now and wound up even further in the hole than you are now.

Trade down. If you still need the car for transportation, consider trading down – you’ll take a big loss on the value up front, but over the long run, it will definitely balance out.

Let’s say, for example, that you’re driving an almost-new 2009 Toyota Avalon that’s worth $6,000 less than you owe. You realize you can’t really swing the $500 a month car payments. So, you take it in and trade it for a $7,000 late model used low-end sedan. Some dealerships will accept this trade – others won’t – but what you’ll wind up with is an upside-down loan on this used car. However, the car payments will be significantly lower, as will the insurance rates.

Park it and remove insurance. If you don’t need to drive the car right now, consider parking it somewhere safe and eliminating insurance on it. This will reduce your monthly bills (no insurance), plus you’ll not actually have to give up the car – it’ll still be there for you if you return to work. It’s not accumulating miles or wear and tear, so you save on maintenance costs as well.

This strategy works well if you’re in a situation with a healthy emergency fund and are anticipating several months without work. I know of several people in this position – they’re currently staying at home, either looking for work or trying to get their own business started while living off of savings.

Get a different loan, then sell. If you have very strong credit, you might have the option to get a personal loan or perhaps add to a home equity line of credit in order to pay the car loan down enough so that you’re not upside down in the loan. When you’ve done that, actively seek to sell the car.

This is a great solution if you have strong credit (or at least access to a healthy credit line with low interest elsewhere). Essentially, you’re just eliminating the car (and its value) from the loan, leaving you with just a small debt that can be repaid over time. Plus, you get the additional savings of no insurance and no vehicle tags.

Are there any other good ideas that Michael might be able to try?

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  1. Studenomist says:

    I had a friend in a similar situation last year. He ended up just parking the car in his parents garage and getting rid of the insurance while he took the bus around. The hardest part is going from the leisure of having your own method of transportation to relying on public transportation (which can be really slow at times). It’s important to ask yourself whether you absolutely need this car because if money is tight then gas, insurance, and parking are the last thing you need to be paying for.

  2. Michael says:

    Bonus option: abandon it at the bank and let them repossess it. That’s what people are doing these days.

    I’m not the Michael who asked that question.

  3. Scotty says:

    (FYI — this is commonly reffered to as a car ‘turning upside-down’)

    One key trick is to try and avoid brands that drop is value quickly. All vehicles drop in value the second they’re driven off the lot, but obviously different brands and models are fare differently. This an important factor in the purchasing decision, at least it is for me. But if you’re buying a car with the intent to drive it into the ground, it doesn’t much matter. The economy doesn’t help either, because brand-new models are going out the door for amazingly low deals. Needless to say, Hondas and Toyotas tend to far a bit better in this category. I have a Civic, and even in this economy, there has never been a point where it has turned upside down.

  4. Angie says:

    I don’t think you can keep ownership of a car and dump the insurance in states like California that require insurance coverage.

  5. Eric says:

    Be careful if you are dropping insurance coverage. Auto loan agreements typically require that carry a minimum amount of coverage to protect the loan collateral.

  6. Johanna says:

    In my state (Maryland), even when my landlord had a *non-functioning* car sitting in his driveway (while he was figuring out how to get rid of it), he was required to have insurance on it. But he was able to reduce his coverage to a very basic policy, so he did save some money over what he was paying when he was actually driving the car.

  7. Carrie says:

    isn’t this a pretty typical situation for people who don’t make big down payments and lose their 30% value when they drive it off the lot?

    if i were in this situation i would just keep the car and keep on driving it until it’s not worth fixing any more.

  8. Sally says:

    Reduce coverages on your insurance – but like others said – you need to keep physical damage coverage on per your lienholder. Also – you should at least have comprehensive – for fire, theft or glass loss.

  9. Eric G says:

    Likewise for NJ. If the car has plates it must have insurance, and you will pay a hefty fine if a police officer takes notice and decides to write a ticket, whether it is being driven or not.

    Also, as someone pointed out, banks require collision and comprehensive coverage for car loans. Some insurance companies will refuse to drop these coverages and/or may notify the lien holder when you drop them.

  10. Dani says:

    Agreeing with Eric – not only do many lenders require insurance, but they will automatically purchase it (at a higher rate, or course) and come after you for the difference. I experienced this first-hand when I changed insurance policies and the new company didn’t notify my lender of the new policy information. The amount the lender charged me was close to double what I was paying my insurance company.

    And also in line with what Johanna/Angie said above – in Pennsylvania, you’re required to turn in your license plates if you drop insurance coverage. So, technically, you can have an uninsured car (in this state) but only if it’s paid off and has no tags.

  11. Mike C says:

    I’ve seen several posts in this blog related to car ownership, and every time I am surprised at how naturally we accept to have an auto loan. In my opinion it seems reasonable to get a loan for your first car, but after that, you should save to pay your next car in cash (or at least get a very big down payment). If you can afford to make car payments, you should also be able to save for your next car. Of course you may need to keep your car for a longer time, but it saves you from unnecessary debt, and it saves you from the risk of turning upside-down.

    I should say that I come from Europe, and over there you do not always need a car, and even when you do, you tend to drive less, so it is easier to keep it for a longer time.

  12. Nowooski says:

    In Iceland underwater luxury SUVs and massive job losses has led to a spate of unexplained “exploding landrovers.”

  13. George says:

    As the others have said, most loans on cars require carrying insurance for physical loss/damage of the car.

  14. Tyler says:

    @Mike C:

    Most people have car loans because a) by the time you’ve paid off the car loan, you want a new car or b) after finishing the car loan, people apply the amount they used to have for a car payment towards their mortgage or other loans/debt they have, under the “debt snowball” method. I don’t know of anyone who actively saves for their next major purchase – they are either reducing debt or saving for retirement.

  15. Kevin says:

    Depending on your climate letting a car sit can actually hurt it.

    My brother let a car sit to the side of our garage to sell it, only to have the brake pads and rotors go bad.

    Keeping your tires in the same spot for long periods is not recommended. And watch out for moisture accumulating in the gas tank.

    And probably a bunch of other things I can’t think of.

  16. My Journey says:

    I don’t have a solution but I have a very similar problem. I have a 2006 Mitsu Galant which costs me about 285 a month or so, I KNOW I can get a 2009 car for 300 a month. I am not going to run this car into the ground but I am 4K underwater.

    I am ok with 300 a month for a car, I know most people that read this blog, wouldn’t be – but I am.

  17. Jared M. says:

    I have plenty of friends that’s in the same situation. I tried to inform my friends that you do not need to purchase a late-model car. In my opinion, I think most of the cars build from the mid 1990′s and back are more durable and reliable than the late-model cars.

  18. Nancy says:

    One of the biggest reasons I have seen for folks being upside-down on a vehicle loan is taking out a loan for 6 years or even longer. Borrowers do this to get a payment they can more easily afford. If you have to take out and auto loan for more than 4 or 5 years, (some advisors say 3 years), you can not afford the vehicle. Folks need to at least save for a sizeable down payment or find a car they can truely afford.

    And for whoever it was that suggested abandoning it at the bank and let them reposses it. YUCK!! This will be reported to the credit agencies and will stay on your credit history for at least 7 years! It will also tank you credit score. If you are having trouble with the payments it is always better to talk to the lender, they may be able to extend or rewrite the loan to a payment you can take care of. You would still be upside-down but this would have a much smaller effect on your credit.

  19. Anonymous says:

    Tell him to suck it up. Unless you put a significant amount down on the car, I think it’s pretty inevitable that you will be upside down (you owe more then its worth). All cars depreciate pretty quickly; unless maybe its luxury and you want to keep it until its considered vintage.

    True story for you: My friend bought a Ford 150, the dealership told him that he could borrow from Ford Motor Credit and they’d hold the title so he could go shop for better rates and he’d still be able to classify the car as new. They were wrong, the banks were considering it a refinance and since he already drove the car off the lot, the bank was willing to only finance up to 110% of the car value, $28,000. He told me the original purchase price was over $30,000. Meaning that in three days, his car had depreciated over $2,000 because he drove it off the lot. I’m telling you kids, it does NOT make sense to me why people buy ridiculously expensive cars, you will always owe more then its worth over some time of the loan.

    *hops off soapbox*

    And to the person whose suggesting that it get repossessed, that makes no sense to me either because you’re majorly screwing yourself in the end. You are getting a HUGE hit on your credit, meaning that your interest rates are going to skyrocket and you will get stuck paying so much more for future loans. Bad idea. Plus, isn’t that how we got into this whole mortgage mess in the first place?! Walking away from a loan? Do we really want to put the economy through this again?

  20. lurker carl says:

    What do you do when you find your car is worth less than you owe on it?

    You purchase “gap” insurance to cover the difference in price between the automobile’s value and the loan balance. That policy is designed to pay off the difference between the insurance settlement and the loan balance if the car is declared a total loss due to a covered incident.

    Next, kick yourself in the butt for borrowing money to buy the car. Then kick yourself again for paying too much for it. Kick yourself a third time for buying a car more expensive than you could afford, otherwise you wouldn’t care what the value versus balance is.

  21. Amanda says:

    Mike C, I don’t know if you realize it, but you’ve done a good job of describing the problem.

    “I don’t know of anyone who actively saves for their next major purchase – they are either reducing debt or saving for retirement.”

    This is kind of backwards, because if you are making payments on major purchases, financing or refinancing, rather than saving for them, you are not reducing debt, you are taking on debt.

    “I’m reducing debt, therefore I can’t aford to save, I have to take a loan.” -Can you see the contradiction in this statement?

    Just because most people do it that way, doesn’t mean it’s the best. If you do what most people do, you’ll get what most poeple have. If you want something better, then you have to be willing to do things different than “the norm.”

    Tyler, if you read your b) satement closely, you’ll see that you’ve described a never ending debt cycle. Also, you’ve said, “by the time you’ve paid off the car loan, you want a new car” The problem here is that WANT and NEED are not the same. The point of delayed gratification is that you don’t buy things just because you want them and if you do, not always right as soon as you want them. It’s the attitude of “I want it so I will finance it and get it NOW, is what gets us into these kinds of situations.”

    “I don’t know of anyone who actively saves for their next major purchase.” You probably also don’t know anyone who’s not having financial problems and carrying a lot of debt.

    To change your direction, you first have to change your mind.

  22. Lori O. says:

    Michael may wish to review his financing contract before deciding to park the car and cancel the insurance.

    Cancelling the insurance may constitute a breach of contract which would entitle the finance company to repossess the vehicle to preserve the value of its’ endangered collateral.

    This advice sounds like sensible and simple advice on its’ face, but it may get Michael into even more financial trouble to have to continue paying a deficiency balance on a repossessed vehicle.

  23. teaspoon says:

    I’m 26 and have never had a car payment. My first car was a 1987 Mazda that I bought from my college advisor for $800. My husband and I now share a 1998 Toyota Avalon that his parents gave us for Christmas a few years ago when they upgraded their own car. Must like Mike C. above, I don’t know why more people don’t try to avoid taking out loans on automobiles. My husband and I are now making “car payments” into an ING savings account. In 3 years, we’ll be able to buy a new or almost-new car for cash. This way we’re earning interest on our car payments rather than letting the dealership or the bank earn interest on our money.
    (This is assuming, of course, that our 1998 car will last 3 more years, but I have no reason to think that it won’t.)

  24. teaspoon says:

    Oh, and one thing, Trent. I’m sorry to be nit-picky, but since you consider yourself first and foremost an author, I figure you like to know when you make errors in your writing. In your first paragraph, “laying” needs to be changed to “lying,” as in “there’s not enough cash LYING around.” Thanks!

  25. PF says:

    If you have a car loan, the lien holder REQUIRES insurance or you will be in default of the loan. Every car loan I have ever had has required a copy of the insurance policy to be sent to them at every renewal. Sorry, dropping insurance is not an option based on my experience

  26. kitty says:

    “Bonus option: abandon it at the bank and let them repossess it. That’s what people are doing these days.”
    This is why the economy is the way it is – because Americans are irresponsible and unethical morons who bought stuff they cannot afford and then refused to pay for it. I guess you have never learned that honest people always pay off the money they borrowed.

    How about this solution – just continue paying your loan, don’t worry about resale value and continue driving the car until it breaks – hopefully long after your loan is repaid. If you take good care of your car it is better than a comparable used car being sold (where you don’t know the conditions) – so you can think of better condition of your own car as a reason for its higher price.

  27. Joanna says:

    @Mike C.: You’re right that one reason so many folks have a car payment is because they “want” a new car every 5 years. But that’s the key. It’s a want, not a need. Cars last much longer than 5 years.

    I disagree that no one saves for a car, mostly because my husband and I are socking away $500 a month right now to replace my car. We plan to pay cash when we’re ready to buy in a couple of years. Also, my car is nearly 8 years old and his is 9. Both run just fine and are actually still nice looking cosmetically as well.

  28. kevin says:

    A guy I carpool with use to buy “one paycheck” cars (the car never cost more than one paycheck). That could work sometimes but you have to be ready to wrench on the car. It is not possible to be underwater (or upside down) on a “one paycheck” car. To those underwater people, what percentage of the car’s sales price did you have as a downpayment?

  29. Matt says:

    @ kitty

    I agree with you that that suggestion was terrible, but did you really need to turn it into a blind attack on all Americans, calling them “irresponsible and unethical morons”? I take great personal offense at your grouping all Americans (thus including myself) together with the idiots who buy what they can’t afford and then try to weasel out of their commitments.

    Also, I’m not even sure that guy was being serious with that suggestion.

  30. Matt says:

    To answer Michael’s question, it depends on whether you can afford the payments or not. If you can’t, you have to sell then buy a cheaper car that you’ll be underwater on but with smaller payments. If you can afford the payments you should get Gap Insurance as someone suggested then finish paying off the car.

  31. Jay says:

    I have no idea if this would work, but instead of just parking the car somewhere safe, could you let a trusted friend or family member use the car in exchange for insurance/part of the payment until you get back on your feet? It does pose the risk of having the car totaled but it could also be a way to get financial help without losing face.

  32. Andrew says:

    DON’T TOTALLY DROP INSURANCE. If you have no coverage for a period of time you will have much higher premiums when you do get auto insurance again. This is just bad advice.

  33. Brad says:

    The problem you are having is one I have been struggling with. My income was reduced 20% and my already high payments became too much. I studied everything, called everyone and tried every method I could to consolidate. With under-average credit my options were this: Nothing. I have to stick with my car until it becomes level with the loan value and sell if I want to. At that point though, I may as well keep the car.

    So I just cut back in other ways to make the car payment.

  34. SteveJ says:

    I cosigned on a loan got stuck with a car (72-month loan at that) when the buyer couldn’t make payments. In my more desperate moments I gave a lot of thought to selling my paid off car to cover the difference and immediately selling the lemon and then taking a small loan for a junker.

    I’ve also looked hard at those balance transfer offers, but I’m afraid they’ll change the terms and I’ll be even further up a creek. Debt vs debt doesn’t seem like a sound strategy, even at 1/4th the interest. Besides if you can’t get a loan for the whole amount you’re just stuck with an even larger payment until you pay off one of the loans.

    Refinancing a used car is supposedly possible, but I haven’t had any luck getting terms I’d agree with, even with great credit. The bank doesn’t want to pay more than the car is worth either. They’ll give you a fine rate on a new car, but it seems like they want 4 points more for a used.

    In the end I gave up sleep and picked up a side job to make the car payment. Then my FIL needed a car and bought mine off of of me and that immediately went towards the loan. It’s been 2 years and I’m not right side up yet, but I will be soon and I’ll have the damn thing paid off by next year. At which point I’d like to set it on fire, but I guess I won’t.

  35. Michael says:

    kitty, I work in financial services. Plenty of “good loans” (our way of saying honest people) are turning in their cars because they can’t afford to make the payments. They aren’t waiting to fall behind and have the car forcefully taken from them.

    Be thankful you have enough money to sit back and call people who lose their cars “dishonest.”

  36. SteveJ says:

    @Michael,

    Just curious, what’s the procedure on that? Is the loan then written off? It’s still a default and a deficiency judgement, right?

  37. Michael says:

    SteveJ, that’s all correct. The car is sold (at a loss of course as the loan is upside down), and the balance comes from loan loss provisions.

  38. Bill in Houston says:

    @ My Journey (#13)

    What’s wrong with the car you have, dude? Your car does NOT define you. Pay it off. Are you prepared for higher insurance rates, too? You think it’ll only be fifteen bucks more a month? Don’t kid yourself. Don’t buy into an image. No one who matters really cares if that car is a 2006 or a 2009.

  39. My Journey says:

    Bill its not about the image, its the fact that I am unlikely to own the car past the point with no payments, so I’d rather bail now. This is compounded with the 0% deals out there (I am paying 8.9%). So, in doing the math I can get a newer car paying zero interest for 5 years.

  40. Sarah says:

    I think honest people honor their word. If the auto loan contains provisions for repossession, then exercising the option of repossession is not dishonest. The lender gets paid throughout the life of the loan to compensate it for the possibility that repossession might happen.

  41. Bill in Houston says:

    Me, I’m going to drive my Altima into the ground.

  42. sm4k says:

    @ #12

    You’re right, leaving a car sitting can have negative effects on a car. The fuel can go bad in the tank, too.

    If you decide to let a car sit, you should probably fire it up at least once a month and make sure everything is still in good working order. I can’t remember if it’s better to leave it sitting with a full tank or with a low tank, so some research would be in order.

  43. The DepressingTruth says:

    GROW UP…Continue to make the payments (and pay for the insurance coverage)

    Quote:”Bill its not about the image, its the fact that I am unlikely to own the car past the point with no payments, so I’d rather bail now.This is compounded with the 0% deals out there (I am paying 8.9%). So, in doing the math I can get a newer car paying zero interest for 5 years.”

    Why are you “unlikely to own the car past the point with no payments”?

    Too many miles…it’s going to “wear out” before the payments end? Your “Lifestyle” has changed? What?

    Do you think that after rolling your “Negative Equity” into the loan for the NEWER CAR (even @ 0% interest) you come out ahead?

    Naw…in reality you are that much deeper into “The Hole” as far as equity. You would owe the cost of the NEWER CAR (which will loose 15 to 20% of the value/loan amount when you drive it “off the lot”)plus the amount that you had to add to your loan amount because you JUST HAD TO HAVE that NEW 2009 Zimbabwe Rhodesian Sport…

    Do what ever you want (because you will anyway)

    Invest in some “Dave Ramsey” Books…and write your poor choices in major purchases off as another learning experience.

    On the other hand…It’s “PEOPLE LIKE YOU” that keep our economy going…as the “REST OF US” wise up!

    Go Get’m Tiger!

  44. I’m disappointed at the lack of correct information here. First of all, “dropping insurance” is bad advice. As part of any vehicle installment agreement, the borrower agrees to insure the vehicle. In fact, the lender requires periodic proof of insurance coverage as a condition of the loan. If you drop your insurance on your car, the lender has the right to either a) invalidate your loan agreement and demand the full balance and/or the vehicle or b) force-place insurance on the car and add it to your loan balance (this is the most likely course of action). Obviously, neither of these is a good option.

    Second, there’s a lot of misinformation floating around in the comments here. Repossession is the absolute worst thing you can do for your credit, and it will take the better part of a decade to recover. The lender isn’t just going to “absorb” whatever loss they take on your car when they repossess it – the borrower is responsible for whatever the balance is between what was owed on the vehicle at the time and the repo and what the bank sold the car for at auction.

    If a person owes $10k and their vehicle is repo’d and sold for $6k, the bank sends the borrower a bill for $4k (and there are no payment plans). If the borrower doesn’t pay (and they never do), civil proceedings are begun. Most people end up with a judgment and wages are sometimes garnished.

    By the way, you can guess what a repossession and a civil judgment will do to a person’s credit score. In this credit climate, a repossession is the proverbial “kiss of death.” No one will offer you credit until a few years have gone by.

    Repossession is NEVER an option – especially if your credit is in good standing.

    Trent – Can I give you a guest post or something on this topic? I’d be happy to give your readers a few options that haven’t been discussed here.

  45. Tawnya says:

    I agree that it may not be such a good idea to drop the insurance. In my state, if your insurance lapses, your premium will be much higher next time you apply.

  46. Kris says:

    @ My Journey – That is a great plan if you plan to be poor. Why can’t you drive your car for the next 10 – 15 years ( which should be well past the point of no more payments ).

    @ Michael – what are Loan Loss provisions? When my brother turned his car in, the bank sold it at a huge loss and then sued him for the difference. So now he is paying for a car he hasn’t owned in over 2 years.

    Also, with a car loan you will be unable to drop insurance. If you do, the bank will take out insurance on the car and force you to pay for it and I can guarantee it will cost more than you are currently paying. It is in every reputable car loan agreement.

  47. Marie says:

    You want to make sure you start the car at least once a week. If you are able to back it up and down the driveway, that would be good also, especially for the tires. I can remember having square tires on a car that sat too long…oy!

    Another option is that, if you are not driving the car too often, you may be able to switch to another kind of insurance plan which handles just driving occasionally for fun…forget what it’s called. Talk to your agent. :-)

  48. Marie says:

    “DON’T TOTALLY DROP INSURANCE. If you have no coverage for a period of time you will have much higher premiums when you do get auto insurance again. This is just bad advice.”

    Not necessarily. The first policy will be higher, that is true. But, ask your agent to rewrite your policy upon renewal. You will have a history of having a policy at that point, and if you were a good driver during that time, you may find yourself with a better rate.

  49. Warehousing the car may help– no new mileage and keeping the condition can halp the value a bit . . .

    However, if you are deeply underwater only fully amortizing the loan (paying it off) will solve the problem.

  50. Michael says:

    Kris, right, they still owe the balance. But practically speaking it’s going to be a write-off unless the cost of collecting is low enough.

  51. JT says:

    Sorry there are no great options on dealing with the situation once you’re in it. But – learn a lesson from this and don’t get yourself into this situation again. If you’re going to finance a car, make sure you put enough of a downpayment to protect you, and a short enough loan term (I think if it takes you more than 2 years to pay off a car, than you’re buying too much car).

  52. mbhunter says:

    It’s not tough at all to owe more on your car than it’s worth. If you buy a new one with almost nothing down, it’s upside-down the moment you drive it off the lot.

  53. danielle says:

    soooo in November of 2008 i bought a 2008 honda civic with 1200 miles on it. i bought it for 21k, and put down 7k. making my loan 14k. high interest rate of 10% due to crap credit. then in may of 2009, i traded in the civic for 12k and bought a 2009 honda CRV. no money down and an interest rate of 9%.however, my loan went from 14k to 25k. is there ANYTHING i can do to get myself out of this situation?

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