How to Trade In a Car With an Upside-Down Loan

What Is an Upside-Down Car Loan?

An upside-down car loan is one where the loan balance is more than the vehicle is worth. This is known as having negative equity. Since cars depreciate over time, negative equity can happen naturally. However, it can worsen with accidents, repairs or other damage. You can also become upside down if your car loan has a long term with a high interest rate or you made a small or no down payment at purchase.

You can estimate your car value using a tool like Kelley Blue Book. Compare this amount to your remaining loan balance to see if you have negative equity. For example, you might have negative equity if your car is worth $15,000 but your loan balance is $20,000.

Learn more: What Is Depreciation?

How to Trade In a Car With an Upside-Down Loan

If you're upside down on your car loan, you can still trade it in by rolling the negative equity into a new car loan. However, this increases your new loan amount, so it's important to minimize your risk.

1. Determine Your Negative Equity Amount

Find out how much you owe versus the trade-in value of your car. Knowing your exact amount of negative equity helps you decide whether trading is worth it or if you should explore alternatives. It also helps you spot unfair trade deals. Some dealerships hide negative equity by inflating the price of the new car.

2. Find an Affordable Car

Since you're already rolling over debt, choosing an affordable car helps you keep your new loan manageable. Consider a car with slower depreciation or a slightly used car so you don't end up upside down again. Set a budget before visiting dealerships to avoid being pressured into overspending.

Learn more: Used Car vs. New Car: Which Should You Buy?

3. Negotiate the New Price and Terms

Get multiple trade-in offers to be sure you get the best deal, if possible. These offers may give you more negotiating power. You may have to pay part of the negative equity as a down payment, depending on your negative equity amount. As you're working out a deal, try to get the lowest price and best interest rate on your new loan.

4. Choose the Right Financing Period

While a longer repayment period may give you a smaller payment, this also increases the negative equity on your new loan and keeps you upside down longer. Choosing a shorter term allows you to reach positive equity sooner and reduces the amount of interest you pay.

5. Sign the Contract

Before finalizing the trade-in, double-check the loan terms, the amount of negative equity rolled into the loan and any extra fees or add-ons. After the deal, check to make sure your old loan gets paid off by the dealer.

Car payment calculator

Should You Trade In a Car With an Upside-Down Loan?

The decision to trade in a car with an upside-down loan may depend on several factors. Here are the benefits and drawbacks of making this move:

When an upside-down trade-in is worth it:

• Your car has expensive repairs or safety issues that make it impractical. Trading it in may be better than putting money toward getting it in good condition.
• You qualify for a lower interest rate. If your credit has improved, a new loan may be more affordable, even after rolling over some negative equity.
• Your life circumstances have changed and you need a different type of car. For instance, you may need to trade a car for an SUV for a larger family.
• You only have a small amount of negative equity. If you can make up the difference relatively quickly with a new loan, it may make it worthwhile to pursue the trade-in.

When an upside-down trade-in is not worth it:

• You're significantly upside-down. Rolling over too much debt will keep you in negative equity for longer and cost you more.
• You're upgrading to a more expensive car or a car that depreciates quickly. Doing this could keep you in a loop of negative equity that is hard to get out of.
• Your new loan will be more than 60 months. Longer loan terms mean you'll spend more time upside down, making future trades harder.
• You plan to trade again soon and won't have time to build positive equity. It may be best to just keep driving your current car—and paying down the loan—in the hopes of a better trade-in down the line.

Alternatives to Trading In a Car With an Upside-Down Loan

Before rolling over negative equity, consider these alternatives:

• Pay off the negative equity. Make a lump-sum payment or extra payments, being sure to specify that the extra amount should be applied to principal, not just future interest.
• Refinance the loan. If your credit has improved, you may qualify for a lower interest rate. You can also refinance for a shorter term to pay off the loan faster.
• Sell the car privately. You may be able to get more money selling the car privately than you would with a trade-in. A higher sales price would help you cover the negative equity.

Frequently Asked Questions

The Bottom Line

Trading in a car with negative equity isn't ideal, but there are ways to minimize the impact. Look for a reasonably priced car and try to get a low interest rate. Choosing a more expensive car or a longer term can keep you upside down for longer.

Check your credit report and FICO^® Score^☉ for free with Experian before starting the trade-in process to see where you stand. This way you can determine whether you're likely to qualify for a better interest rate or if you need time to improve your credit score.