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Being Upside Down


hoapres
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Upside Down and it's effects

 

I. Definition-Upside Down is the difference between

 

a. What you owe on your car

 

vs.

 

b. What your car is worth

 

For example,

 

You owe $20,000 but the car is worth $14,000 then :

 

You are upsidedown, "in the bucket", negative equity of $6,000

 

You can quickly determine "What you owe on your car" by calling the financing institution for a payoff amount.

 

Unfortunately, I have seen too many having grandoise idea on "What your car is worth". Your car is worth only what someone is willing to pay for it.

 

The value of your car can not be determined exactly and the best guide is likely to be the local dealer auction sheets.

 

II. Why am I upsidedown??

 

You most likely are upsidedown because :

 

You bought a new or almost new car with little or no money down. Cars DEPRECIATE - i.e. lose value - in the vast majority of cases the moment you drive off the car lot.

 

If you bought a $20,000 car with no money down and the car is worth $15,000 the moment you drive it off the lot then :

 

You are $5,000 upside down, "in the bucket", negative equity

 

You most likely NOT upside down because :

 

Your loan interest rate did not cause you to be upside down, rather the above most likely caused you to be upside down.

 

 

III. How do I get out of being upsidedown?

 

With cash and/or drive real slow. As the loan is amortized over time, i.e. paid off then your car's value is likely to be dependent on the condition which includes mileage. If you can keep the car mileage down - i.e. take public transporation to work - then that will help over time to get you "out of the bucket". The quickest way to get "out of the bucket" is paying down the loan.

 

You won't get out of being upside down :

 

Trading in your "in the bucket" car for a new car as you most likely become EVEN more upside down. If you have good credit then you can probably use the rebates, etc. in a vain attempt to get "out of the bucket". In reality, you have simply TRANSFERRED the upside down amount INTO the new car. You did NOT get "out of the bucket" but simply MOVED "the bucket". Most likely, you are DEEPER "in the bucket"

 

Financially, you are quite likely to be WORSE off than when you started.

 

I am not saying you should not tradein your current car, but you should become aware of the ramnifications.

 

 

If you have marginal or problem credit then being upsidedown is quite likely to cause problems as : 1. You may need a downpayment to get financing or 2. Many lenders use LTV - loan to value - as a consideration in the interest rate. Being upsidedown without a downpayment, is likely to cause you to pay higher interest rates than one with a significant downpayment.

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Upside down starts with the basic fact that for any particular car, at any particular time, there is always a difference between its retail price and its trade-in value. Otherwise used car dealers would have a hard time making money. The difference is most acute on a brand new car because it is sold factory new, but will become "used" the instant the buyer takes delivery.

 

So realize that unless you completely cover this difference with a substantial down payment or positive equity from your trade in, every car that you finance will be upside down for a period of time. It's not good, but it's not necessarily bad. You are not the only one on the road in an upside down car.

 

So mostly you take some initial upside down as a given, and strive to become rightside up as soon as possible. First try to limit the initial upside down amount.

 

Many people don't have a large down payment or significant positive trade equity. Ideally you would keep a car for long after it is paid off, until it becomes worthless, before considering buying a new one. Thus no trade equity. The worst thing is negative trade equity by trading an upside down car. Even if you hate your car, you really have to keep it until it is rightside up or you will have an even tougher situation with the next one.

 

Your position with respect to down payment and trade equity is fixed by what you have. However you can try to negotiate the price of the new car as low as possible. This reduces your initial upside down amount directly. You want to for the most part shun additional things like warranties and life insurance that are added into the loan. Many of these are a problem becuase they prove to be worthless. If you try to use them, they are denied. You can get a refund at trade in time but it is usually unevenly pro-rated. If you've had the car for a year or more the refund is rather small. However, since you are inevitably upside down, consider the GAP insurance. GAP insurance may be available at a lower cost from your car insurance company.

 

A leased car stays more upside down than one financed on a purchase contract. They are typically upside down for the whole term. Only at the end of the contract, if the car is in good condition with under the allotted miles, will you hope to reach a break-even at zero equity. Do not lease if there is any chance you will be trading in early. You will take a huge loss.

 

Now after the deal is done, how do you get rightside up quickly. Very important is the type of car. Some lose value quickly, some more slowly. As the car loses value, it is running away from your efforts to pay the loan down. It is hard to predict the future value of a car because it depends a lot on how many people will want to buy your used one, which is driven by what the manufacturer does with the price and selection of their new ones. But there are certain brands that are historically much worse than others.

 

Paying the loan down occurs automatically at a certain rate as long as you make the payments on time. Of course a loan with a shorter term will be paid off faster, but the payments are higher. The vast majority of car loans are simple interest, which means you can pay them down faster by paying extra per month. This is highly recommended to get into positive equity faster and it also saves money on interest. Paying extra on a long term loan is actually the same as having a short term loan of the same APR. Again this goes back to car selection, not buying the most expensive car you can afford allows you to have the budget to pay extra per month.

 

Loan APR is important but not the totally dominant factor in the paydown rate. At high APR, in the early part of a loan, realtively little of each payment goes to principal. Mostly the effect of high APR is to make the payments higher, which makes it harder to have the budget to pay extra per month.

 

Not making the payments on time will delay paying down the loan. If you defer payments, the loan balance will actually increase. Meanwhile the car is losing value, so it is getting more upside down from both factors. Always make up deferred payments as soon as you can, don't wait untill the end of the term. In a subprime situation with penalty fees and high APR, it is even possible to get close to "negative amortization" where the principal is not changing even though a full payment is made each month. If the borrower doesn't notice that, or doesn't have the extra money to correct it, the car will never be rightside up.

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