How to Avoid Going “Underwater” in your Vehicle….Loan
In a previous post, we spoke about ways to get out of an “underwater” car loan.
In this post, we will discuss a few ways to avoid getting into an “underwater” situation in the first place.
When you become interested in purchasing a vehicle, the first step you should make is to check your credit. This will help you determine what interest rate you may qualify for. You want to shoot for an optimal rate. If you have a credit score over 720, this will put you in a better tier and you could expect to pay a rate of 3.724% or less. Consumers whose credit scores are sub 720 can expect to pay an average of 5.098% or higher according to creditdonkey.com. A high interest rate is almost a sure fire way to end up underwater in your auto loan. Check with your local credit union or bank, as they will often have rates and terms that will match or beat the terms of a dealership.
Do your research! Shop around. Check out what the average selling price is of the car(s) that you are interested in to ensure you get a decent deal. KelleyBlueBook, TrueCar, and Cargurus can help with this. This will help you know what to expect when you walk on a dealer’s lot.
Factor In Depreciation. Cars are depreciating assets, but some cars depreciate faster than others. You want to purchase a car that doesn’t depreciate at a fast rate to ensure that as you pay the balance down on the loan, the value will be in line with it.
(*There will be a future post on vehicles that you may want to avoid purchasing due to rapid depreciation.)
Make a down payment. This will immediately cut down the loan balance and help you get ahead of the depreciation curve.
You don’t need the “add-ons”. When you are finalizing your auto purchase and signing the paperwork, you will be offered myriad of upgrades, warranties, protections, and insurances. Most of these you will not need. I am not totally opposed to some of these items, but keep in mind that they will increase the cost of your vehicle and loan balance. It will be enticing because stretched out over the term of the loan will minimally increase your monthly payment.
The shorter the loan term, the better. Don’t be tempted to extend the term of your loan over a longer period of time in order the get a lower payment. This is very enticing, but it is accompanied by a higher interest rate. This will prohibit the loan principal from being paid down as fast; therefore, leaving you with a higher risk of ending up underwater.
Buy used vs. new- Cars depreciate the most in the first two years. Consider purchasing a 1-2 year preowned certified vehicle. It will be less expensive than purchasing a new one, and it will have absorbed the largest depreciation hits already.
Avoid taking on the balance of your trade-in on your “new” car. If you are already underwater in a car and decide to trade it in on another vehicle, that balance has to go somewhere. It gets added into the cost of the vehicle you are purchasing. When you bring negative equity into a new loan, you are burying yourself in the loan from the start. Make sure to start off on the right foot.
Good luck on your next vehicle purchase!
Being Underwater in Your Vehicle…
You might have heard the phrases “upside down” or “underwater” when it comes to real estate.The same can apply to your vehicle.The meaning of this phrase refers to owing more on the loan balance than what your home or car is worth.For the purposes of the writing, we are discussing auto loans.The very first thing you have to do is find out whether or not you are actually “underwater”. If you happen to be “underwater”, you need to know by how much. Finally, we will discuss how to remedy this situation.Find out the balance of your auto loan. Review your most recent loan statement. If you don’t have one available, contact the financial institution that financed your vehicle and request the balance. Also, take note of your interest rate. (We will go into more detail about interest rates in another post.)Find out the value of your vehicle. This can be easily found online with sites such as KellyBlueBook.com, Autotrader.com, Edmunds.com, and NADAguide.comCompare the value vs. the balance. If your balance is lower than the value of your car or around the same amount, you are in good shape. If the balance is higher than the value, you are considered to be “upside down” or “underwater”. If you fall into this category, don’t fret. Here are a few ways to turn that upside down loan right side up:Make principal payments: Any time you have extra funds, make a payment towards the principal of the loan. Ex. If your monthly payment is $400, try to pay $100-$150 extra towards the principal.Whenever you receive bonuses, birthday money, income tax refunds, make an even larger principal payment.*This will also assist you in paying the loan off faster.Refinance your vehicle: Your credit may have improved since your loan was originated. Refinancing with different terms could bring the balance more in line with the value.*Don’t stretch the term too far out, though. The longer the term, the chances of you going underwater again increases, as the value of the vehicle continues to decrease.Sell your vehicle: If you have funds saved, you could sell the car and start fresh. Try to get the highest amount for it. Keep in mind that you will have to cover the difference between the sale price and loan balance, hence the need for funds saved.I hope this was helpful in assisting you with identifying whether or not you are upside down on your auto loan. If you happen to find yourself in that situation, I hope that one of the suggestions mentioned will be a good solution for you.
- Published in Auto, Business, Finance, personal finance