"I Might Be A Little 'Upside Down' In My Car...."

The news has reached everyone by now; full sized trucks and SUVs and other thirsty vehicles are taking a bloody beating in the resale markets. If you have recently taken your Navigator, Tahoe, Hummer, F-250 or pretty much anything with an engine bigger than 3.5 liters to a dealer and inquired about its trade-in value you have undoubtedly been disappointed.

Many people now face a tough dilemma: they can’t afford to drive their guzzler any longer, and no dealer or individual will buy it from them at a price needed in order to pay off the vehicle's loan.

However, before the current market upheaval it was already estimated that as many as 60% of Americans were driving cars on which they owed more money than the car was worth - wholesale, or even retail. How high do you think that number is now?

Why do people get “upside down” in their cars so easily today? Well, as cars have gotten better (and they really are much better today than were their predecessors 20, or even 10 years ago) they have gotten more expensive. As cars get more expensive the only way to keep payments affordable is to extend the term of the loans. In the last twenty five years the average car loan term has jumped from 3.5 years to 6. And while stretching out loans keeps payments down, it also means that it takes a long, long time before a five or six year loan is paid down to the point where the owner has enough equity that the car can be taken to a dealer and traded in for a new one.

If you determine that you want or (absolutely, positively) need to trade in your car before you reach the equity stage, you face a dilemma. Dealers are offering you $ X for your car as a trade-in, but the loan payoff on it is $ X+Y. You owe more than the car is worth. Not only do you have no cash value (equity) in the car, you have negative equity. Your only options are to write the lender a big check for $ Y, or, ask the selling dealer to add $ Y into the purchase price of your new car. (Called “rolling in” or “burying” your negative equity).

A lot of people still assume that they can bury their negative equity into a new car loan easily and without consequence. It can still be done, although the lenders are now more particular about the negative equity absorbing loans they will approve.

To illustrate, let’s say you have -$6,000 negative equity in your trade-in, and you want to buy a new car worth $21,000. The new car, after tax, title and license might be $22,500. When you add in $6,000 you get a financed total of approx. $28,500. You've just increased the price of your new car by 29%!

There are two big problems here:
1) You are asking the lender to finance $28,000 on a product that is worth $21,000. If, god forbid, you should ever default on this loan the lender is stuck with a bad car loan amount far greater than the value of the car used as the loan collateral.
2) Because the contract amount is now huge the only way you can afford the payments is to stretch out the loan to 6 years. Which means you can never, ever trade in this car before it’s paid off or you will encounter a negative equity situation all over again – only worse.

If your credit score is medium to high you can usually bury a couple thousand dollars worth of negative equity into a new car purchase without too much difficulty. But if you are $6,000 - $8,000 upside down and need to bury it all you might be out of luck. Lenders are fleeing big negative equity loans like Galveston residents fleeing an impending Hurricane Ike.

So, if you owe way more today on your car than it is worth you likely have the same choices that the gulf coast people did with the storm: either ride it out to the end or pay to get out now.