Ask the Readers: Escaping from an Upside-Down Loan?
Published on - January 17th, 2007 (by J.D. Roth) Many of us are in similar positions: we’ve discovered sound personal finance skills, but only after making some dumb decisions. I’m still paying down a $16,000 home equity loan that represents my residual credit card debt. John writes with a similar problem, one that he hopes he might escape.
A little over a year ago, I bought a new VW Jetta. I now have a hefty car and insurance payment, which I’ve been making every month without incident. However, after reading GRS for a while, I’m trying to get my finances in order (i.e. pay off debt, build up an emergency fund, etc). I can’t help but think that would all be so much easier if I didn’t have that massive car payment, but I still owe more than the car is worth. Plus, I do need some sort of car to get to work. Can I get rid of my current car and get a decent used car, despite owing more than the VW is worth, and despite not having any savings?
I’ve never been upside-down on a loan before, and don’t know the best way to deal with the situation. It hasn’t come up in my reading yet. Do any of you have experience with this?
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This is an unfortunate result of purchasing a depreciating asset(new car) with a loan. Most of us have done it, I know I have. With no savings to pay the balance of the loan if you were to sell the car, there isn’t much choice other than to keep the vehicle. My suggestion would be to keep the vehicle for as long as you can and drive it to the ground. When you do come by some extra cash, pay down the car loan.
FT
http://www.MillionDollarJourney.com
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If there was an easy way out of an upside-down loan without ending up losing money, then upside-down loans would be a money-making opportunity.
Just enjoy the car and treat the loan as a fixed cost until it’s not upside-down anymore (at which point I imagine you’ll be close enough to the end of the loan that you’ll want to keep it anyhow).
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I had my experience with this a few years back and it still lingers on today. As a young college graduate living at home with disposable income, I splurged on a used BMW. In the 2 years that followed included the car depreciated to the point where I was in a huge hole. I paid triple the car payment to bring the upside-down loan closer to the true value of the car (within 2K). Then i dumped it off on a dealer and exchanged for a Honda Civic. They sold me the car for 12K but for the privilege of taking my car off my hands, I financed 14K (transferring the negative equity) AND paid them a down payment. Four years later, the Civic is paid off and I’m planning on keeping it until I run it into the ground. At the very least, it’ll balance out the money I wasted on the BMW.
Basically, the best thing to do is cut and run, then try and make up the loss over time.
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MDJ has it about right. There’s nothing you can really do, unless you have GAP insurance and aren’t that adverse to insurance fraud.
And running your car into a tree.
Pay the payment, learn the lesson (NEVER buy a new car, always late model used), and drive that sucker into the ground until it disintegrates.
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If you really want to get out of this, you should sell the car on your own (don’t sell it to a dealer). Use KBB.com to find the value. Then go to your credit union and get a personal loan to cover the difference plus the cost of a $2,000 car. You’ll greatly reduce the amount of debt you have and you’ll be reminded of how serious you are about getting out of debt every time you get into your car.
I make $115k per year and I drive a 1999 Corolla with 193,000 miles on it. People I work with laugh at my car all of the time, but I guarantee nobody is laughing at my retirement fund, emergency fund or my kids’ college funds.
I only wish I had driven a junker car (and been smarter financially in general) in my early 20s because my house would be paid for right now as well. The brand new, expensive car that I bought in 1991 is rusting away in a junk yard right now.
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About the only thing I have heard is from Dave Ramsey. He would suggest selling the car privately to pay-off most of the loan, take out a personal loan for the difference (if you can get it), and purchase a beater. Then pay yourself a car payment and never take out a loan again. Check out this link.
http://www.daveramsey.com/etc/lms/drive_free/player.cfm
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this might be a stupid question, but can somebody define ‘being upside down’ on a loan?
Does it just mean owing more than the thing you bought is worth? If that is the case, aren’t just about all loans except for mortgages in most cases upside down?
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To icup:
Yes, upside down is owing more than the car, house, etc is worth. Most car loans do have a period of time where they are upside down. This period of time will start as soon as you drive them off the car lot. This is because many buyers of new cars pay little or no money down and finance them for 5 or more years. If the car is sold during the upside down period and it is sold for what it is worth, the owner will have to make up the difference to pay it off.
This is one reason it is a bad idea to take out a loan on a depreciating asset.
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I know that some people will say buy a used car ALWAYS. For some it might be fine, but my worry with a used car is how was that car treated in its first years of its life? Was the oil changed on time? Was the clutch abused? Was there a teenager driving it for it’s early life? Was it in a flood? (Carfax, i know
) Still, getting a new car will aleviate some of these questions/problems.
That being said, I keep my cars until they die. I have a VW Golf GTI with 110 Miles on it I bought new. Same clutch and very little maintainence problems because I know how I treat my cars. It’s been paid off for 2 years. I’ve a new Nissan which I probably owe more than it’s worth, but Nissans have very good records for reliability. And I plan on keeping it until it dies.
Just don’t buy a new car which you cannot afford in the first place. Keep the Jetta and drive it into the ground.. And take care of it. It’ll take care of you!
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Thanks for the comments/suggestions. I have learned from my mistake (I hope) and I will probably just keep the car. I treat it well and it really is a great car and should last me long after I finally have it paid off.
However, the idea of selling it privately and taking out a loan to make up the difference (and purchase a beater) is appealing. How do you sell a car you technically don’t own (the finance company owns it). Do I have to come up with the cash first so I can get the title?
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I’m someone who has no other debt than my mortgage. However, I’m not sure you should rush to sell off your car. You should figure out how you’re going to get around town if you don’t have a car. If you’re planning to start walking everywhere, try parking your car for a month and actually testing out your feet. It would be terrible if you sold off your car and had a personal loan for say $5,000 and then discovered that you still needed some sort of vehicle. If you needed to buy a used $10,000 car, you might not be in a situation to do so, depending on your credit history. And the used car might result in unknown costs. As well, in five years, will the car have depreciated more than the amount you’re going to have to finance by personal loan? Cars take a big hit in the first year. I would just work out these scenarios and put together some contingency plans. You might consider just continuing with the car payments and switching to paying yourself a car payment when you’re done, so that you don’t do this again.
In the meantime, what can you do to reduce the costs associated with the car? Some things, like replacing windshield wipers, are so easy that you shouldn’t be paying anyone.
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Keeping the Jetta is certainly an option, but I’d sell it and buy a Japanese car as soon as you’re no longer underwater.
Volkswagens are nice cars but parts are expensive – and you will start replacing parts sooner than you might think.
I and a friend both had VW’s – Golf & Jetta – bought new and well maintained, and we both ended up needing more repairs than we expected after the cars were around 4-5 yrs old; and VW parts are much more expensive than Japanese/domestic parts.
I’m now driving an old Camry that’s built like a tank and doesn’t seem to need more than oil changes and tune-ups. Cheers!
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I lust after VW Jettas. I think they are great cars and would love to have a diesel model. I think you’re better off to keep it, pay it off, and enjoy every mile you put on it for the next 10 years or so.
My only reservation would be about maintenance. As some others have pointed out, you’re going to pay more to keep the VW happy than you would for a Toyota or Honda. But even with that factored-in, you’re almost always saving money by keeping the car you have.
I disagree with the “only buy used” crowd. We put too many miles on cars to trust in previous owners’ maintenance habits. My current car is a ’93 Camry we bought new — 247k miles and still going strong. If you are going to keep it 10+ years and pile the miles on it, you can do just fine by buying new. There’s not another car out there that’s cheaper than another tank of gas and an oil change in my Camry.
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If you could park your car for a month and walk everywhere, why not just do that and use the money you were paying in gas as extra against your car loan? This sounds utopian to me.
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John – to sell a car that you don’t “own”, contact the lien holder and let them know what you’re planning on doing. They should be able to outline the steps you’ll have to take. I’ve done this twice in the last year and it was actually easier than I thought. (My experience my have been esp. easy since my credit union was my lien holder.) After the loan was paid off, the lien holder should give you an “affidavit in lieu of title” that the buyer uses to transfer the title to them self.
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I wouldn’t worry too much about buying a used car as long as it is a reliable model. I’d bet anything that a typical used Toyota is higher quality than a new VW. I’m not trying to knock VW owners, I think that’s just a fact.
I beat the hell out of my Corolla. I’ve get the oil changed every 6,000 or 7,000 miles and I’ve had maybe two minor tunes ups in almost 200K miles.
Even if something is wrong with the car, it would most likely be a few hundred dollars to fix it. The money you save on payments, gas, insurance, and registration fees more than make up for the added risk of buying from an unknown seller.
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I was in a similar situation with my vehicle recently, and have now paid off enough so that the car is worth more than the balance on the loan. It took some time and effort, but I’m now ahead. I’m looking to buy a cheap used car so that I can get out of debt even quicker.
My suggestion is to put extra money into the principal — as much as you can — until you’re ahead. Then sell and get the cheapest used car you can buy.
I’m also trying out bike commuting to work, which will save a lot of money in gas and maintenance if it works out. You might consider that too — you also help the environment and get into great shape, while avoiding the horrible traffic jams at the same time.
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I bought a new car a few years ago. Just two months later, I found out I’d be moving to Chicago, where I really wouldn’t need any kind of car, much less a new one. I sold the car, paying the $3,000 or so extra on the loan out of pocket. Paying the $3,000 hurt, but I decided it was cheaper than keeping a car I didn’t need.
If you don’t have cash to do this, Dave Ramsey’s idea looks like a good approximation.
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A lot of advice…some good…and some so, so. I’m from the Dave Ramsey camp of cutting your losses when you can. If you are ridiculously upside down with the loan you could try and take out a loan with a credit union, like someone suggested previously, to pay off the difference of whatever you get from the sale of the car. If you sell the car you may want to consider Zipcar(if they are available in your area) if you only need a car from time to time. Just a thought. Also, you may find it easier to bridge the gap on your car loan by picking up an extra job for a short period of time until you earn enough to sell the car and have enough left over for a Clunker. Pay yourself first not Volkswagon or Chrysler Credit….
http://www.pottpodcast.org
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Rather than paying extra until the loan is no longer upside-down, or selling the car and taking a personal loan to pay the difference, here is another idea.
Save the money yourself to pay the difference. You can either put it into a high-rate savings account or even something riskier like stocks–with stocks if they go down, it will take you longer to save, and if they go up surprisingly fast, you can get the money quicker. It sounds like you can handle it either way.
At this point, you can sell the car and get rid of all debt associated with that car, or you might have thought of something else you’d rather do with the money by then.
Meanwhile, take very good care of your car and keep impeccable records–used car buyers love that and will pay extra for it.
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I’m in exactly the same boat except I bought my car used. It’s a 2002 Honda Accord that I bought in 2005 when I drove my Nissan into the ground. As a freelance musician, driving is essential to the growth and health of my business. Public transportation simply wasn’t an option for me.
I’ve also recently taken control of my finances and am frustrated with my large car and insurance payments. I took on a second job to build an emergency fund and pay off some small debts. I’ve decided that the next thing is to make more aggressive payments on my loan. It seems like the best thing to do is pay it off as quickly as possible to avoid interest and then just take great care of it and enjoy it.
Maybe this will work for you too!
Best Wishes
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Some good advice here. I’m also upside down tremendously… was trying to rebuild my credit after a bankruptcy, but now I have a severe case of buyer’s remorse. I will be focusing on making extra payments to cut down on the balance and then get rid of the thing.
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Good advice all around folks. My girfriend is in this Bad Box, Big Time. From what I’ve researched it comes down to working to live more within your means (which includes an “affordable” used car), finding ways to trim expenses, and rethinking what’s important (not being in debt). Rather than just a debt problem, I think it’s more like “reaching too high.” Oh, the Biggy – one way or another, you’ve GOT to get out of the “unpayable” loan, or it just keeps getting worse. As described by others, standard ways don’t seem doable. A family loan-payoff, with a within-family payback is the only path I’ve been able to come up with. Not the best, but there has to be an escape from the “unpayable.”
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Here I though I was alone..:), im in the same boat, bought a 2003 350z about a year ago, and now want to get rid of the thing but its worth less then the loan. Im 25, and finnally learned my lesson to save up and put a good down payment nomatter if the car is used or new or just make a more reasonable choice when buying cars..keeping in mine it has to be pratical. So I plan to keep the car, and pay some of the 20k down where i can trade the car and not carry any of the loan over.
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If you buy a clunker, wouldn’t the maintenance and repair costs be just as expensive as the previous car payments?
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Virgil,
I drove a 1979 impala around for almost 6 years. I bought the clunker/rust bucket for $600 and only put about $300 into it during the time that I owned it not counting regular oil changes and other preventive maintenance.
That means my monthly car payment was approximately $12.50 per month.. not too shabby in my opinion.
The only cons were:
It looked pretty bad and the A/C did not work.
I could have fixed the A/C for around $400 and I could have gotten a decent paint job for less than $1000 and still been around $32/month for a car payment.
Still an unbeatable deal;-)
I drove the car to North Carolina and back and then drove the car back and forth from Tulsa, OK to Little Rock, AR every week for 7 months with zero problems. The rest of the time I worked locally and only put about 300 miles per week on the car.
Used is the only way to go in my opinion.
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I’m in this exact position. I own a 2007 Saturn Vue but it is 4 cylinder FWD. i just moved to the mountains and desperately need something 4wd if i’m going to trek up for skiing. However, my car is worth 4k less than i owe. i’m already up to my eyeballs (literally) in debt and have poor credit because of it. so what do i do?? i would rather chose my safety over money, but ya know that’s not always an option…i guess i should have listened to dave ramsey. help!?
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Be super careful if you take Jeff’s advice; I did something very similar, bought an older used car and the repair bills are through the roof. I’m stuck in an upside down loan on this POS, and with a blown engine I doubt I can sell it for anything but scrap. If you do go the beater route bring someone who knows what they’re talking about! Should have gone with the old adage, but used later-models. ;(
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Over 1.5 years (mostly while I was deployed), my wife went from…
Leased Jeep Liberty (not fun enough)
Leased VW Beetle (didn’t like stick shift)
Used VW Jetta w/ 7 year loan (too small)
Used Land Rover LR3 w/ 6 year loan
Now I owe $13,000 more than the car is worth, have $677 payments, and I fear rediculous maintenance costs. I still have excellent credit and have no problems making the payments. With ALOT of extra payments, I can pay off in 2.5 years.
Is it worth it to try to downgrade, or should I just suck it up?
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