The Expert Podcast

This is very troubling. According to Kelly Blue Book, the authority on vehicle values in the vehicle market, car loans on used cars are now 125% of the car's value. For example, if you bought a $10,000 car—which is rare nowadays—the loan on that car would be $12,500. If you go to a more likely price point of, let’s say, $20,000 for a car, the loan on that $20,000 car would be $25,000. Now, that might seem extreme, but it’s worse than that.

This is not about loans people take out after driving the car off the lot, dealing with depreciation, or purchasing a new car. This is the amount they’re taking out on a car upfront. After you drive it for a couple of months and the value drops further, the situation worsens beyond 125%. Many people are what's called "buried" in their car—upside down, out of equity, or in negative equity. If you own a vehicle with a loan on it and aren’t in the last year of making payments, you likely owe more than it’s worth.

How does this happen? We’ll also talk about how to get out of these loans if you have one of these high negative equity or upside-down loans. There may be a way to legally eliminate that negative equity. But first, why is a car sold with a loan of 125% of its value?

A lot of times, people are financing their taxes. Taxes on most vehicles are 7–8%. Sometimes, they’re financing things like warranties or other dealer add-ons. In many cases, they’re even financing the negative equity from their last car. Whatever you traded in might have had negative equity, which gets rolled into your new loan. These are some reasons why. Additionally, the car could simply be overpriced. If a dealer marks up the car by a thousand or two over the book value, that markup now becomes part of your loan.

Cars, as soon as they roll out of the showroom, already have at least 125% financing—and maybe more—based on depreciation. So, what can you do to get out of one of these loans?

Remember back in 2008 during the housing crisis when people owed more on their houses than they were worth? Many turned to short sales. Well, there’s a similar method for vehicles. Many banks have a procedure for vehicle short sales written into their loan underwriting manuals. If you have a loan with a bank, are struggling with payments, or your payments are too high, you may consider this option.

Many used cars have payments of $700–800 or even $500–600, which can be a significant burden on families. If the car you own is worth $20,000 in the book but you owe $25,000, you can’t sell it because the title won’t be released until the $25,000 is paid off. In this scenario, many banks prefer a short sale rather than repossessing the vehicle. Repossession involves auctioning the car, paying repo fees, transport costs, and reconditioning, which could cost the bank another $3,000–$4,000.

To pursue a short sale, you’ll need to gather a few documents: a condition report for the vehicle, a title check, proof of income to show affordability issues, and the car’s value. Once you have these, you can apply to the bank for a short sale review. If you present your case professionally and organized, the bank may see this as a better alternative to repossession.

Ultimately, the decision lies with the bank. However, if they know you already have a reasonable sale lined up close to the book value, they may be inclined to approve the short sale. This solution benefits both the bank and you.

Be cautious when buying a car. You might be buried in negative equity from day one. This not only impacts your personal net worth but also makes managing high payments challenging. Overburdened car payments can affect your ability to afford other essentials like rent, mortgage, groceries, taxes, and insurance.