When your debt is more money than you actually have
When you have a loan balance that is higher than the current value of the asset that the loan is secured against, this is known as an “upside-down loan.” To put it another way, you have more debt than assets. This often happens when the value of an asset that was bought with debt goes down faster than the principal on the loan is paid off.
Find out the reasons behind becoming upside down on a loan, as well as the solutions available to fix the problem.
Auto loans with negative equity
The majority of typical vehicle loans require you to make payments toward the principal balance of the loan over the course of a certain amount of time. A portion of each monthly payment is used toward the cost of the interest, while the remaining amount is applied toward the principal balance of the loan.
In due time, the remaining balance on the auto loan will be completely paid off. The term for this kind of payment is termed amortization.
An upside-down situation might occur with an auto loan when the value of the car drops more quickly than the amount that is paid toward the loan balance. For instance, the price of a brand-spanking-new automobile might be $25,000. After a few years, it might only be worth $15,000 at that point (cars tend to lose their value quickly).
At that moment, you are considered to have an upside-down automobile loan if the remaining balance on your auto loan is greater than $15,000. You may only be able to receive $15,000 for the vehicle, but you owe more than that on the loan, so if you were to sell it, you might be required to pay money—for example, by writing a check—because you owe more than that on the loan.
In order to prevent this issue, you will need to pay off the loan (or have it amortized) at a rate that is higher than the rate at which the vehicle is losing value.
When it comes to financing the acquisition of a vehicle, the general consensus holds that a loan with a term of four years is the most advantageous option. Longer durations, such as loans for six or seven years, might assist in maintaining low monthly payments, but you run the danger of being in negative equity toward the end of your loan.
Home loans with negative equity, often known as underwater mortgages,
The vast majority of individuals anticipate that the value of their property will increase over extended periods of time. However, this is not always the case. There are many different factors that can cause a decline in property values. The value of a home may decrease due to regional circumstances or major economic events such as a recession, but even smaller locations may be affected.
Even in a healthy housing market, the value of an individual home can decline if there are unique concerns with the home’s structure or other aspects of the property. In the event that the value of your home decreases while you still owe more on your mortgage than the property is currently worth, you will be considered “upside down” on your home loan.
Alterations in pricing are not the only possible downside. If your loan balance keeps growing over the course of the loan’s term, certain types of mortgages might put you in a position where you are “underwater,” which is another name for being upside down on a loan.
If you do not pay an amount that is sufficient each month to meet the interest charges that have accrued on your loan, those fees may be added to the total amount that you owe on the loan. This is especially likely with a reverse mortgage, where the borrower doesn’t have to pay back the loan every month.
If you have a reverse mortgage, being in a negative equity position might not be as disastrous as you think. You or your heirs may not be required to pay off the remaining sum of the loan in many circumstances. Notwithstanding, you should verify this information with your lender to avoid any unpleasant surprises.
What Consequences Will Result From the Sale of My Upside-Down Car or Home?
There are a few different routes you can take to sell a vehicle if you are in a negative equity position. It would be great if you could pay off the amount that you owe, but if not, that’s okay too.
Get in touch with your lender so that you may have a conversation about the logistics of paying down the loan while also selling the vehicle. If you are buying a new car with financing or trading in your old car for a new one, you may be able to add the amount you still owe to your new auto loan.
It’s not a good idea to roll the debt from your old automobile into the loan for your new one. You won’t be able to avoid having an upside-down debt from the beginning, which means the issue won’t be resolved. But if you use this method, you might buy yourself a little more time before you have to pay off that debt.
Even if you are currently unable to keep up with the payments on your mortgage, you may still be able to sell your property. With the consent of your lender, a short sale enables you to sell the property for an amount that is lower than what you still owe on it. The question is whether or not you will be required to repay the difference between the amount you owe and the price that your home sells for when it is eventually put up for sale.
In states that are referred to as “non-recourse states,” you will not be responsible for paying any money for the “deficiency,” which is the difference between the amount still owed on your loan and the current market value of the property.
Lenders can make an effort to recover the difference from you in many states. However, this is not always the case. This indicates that the loan may continue to be an issue even after the sale has been finalized. It is possible that a qualified attorney could be of assistance to you in this matter.
How to Deal with a Loan That Is Underwater
If you find yourself in the position of having an upside-down loan, you will be faced with challenging choices.
You can keep the property as long as you pay off the loan.
One choice is to proceed with the loan payments while maintaining ownership of the vehicle or property. Sadly, that is not something that can be guaranteed all of the time. Vehicles that require costly repairs can sometimes be more of a burden than they are worth. Or you might find that you have to sell your house and move to a new location for a variety of reasons.
When you are dealing with a car loan that is in a negative equity position, it may make sense to use gap insurance as a risk management strategy.
Get Paid to Sell
Selling is another choice that might be made in order to put an end to everything. The unfortunate news is that the proceeds from the sale will not be sufficient to pay off your loan. As a result, you will need to come up with the remaining cash yourself or risk having a shortfall.
If you are going to sell the car, it is probably in your best interest to sell it on your own. When selling the vehicle, it is possible that you will be able to get a better price from a private buyer than from a dealership.
Try to sort it out
It’s possible that, with the assistance of your lender, you’ll be able to come up with a solution. Have a conversation with them about the problem, as well as with loan officers from local banks and credit unions. One solution could be to sell your vehicle and make the payments on the outstanding sum over a period of time.
You also have the option of voluntarily repossessing the vehicle. You will no longer have access to a vehicle, but if the proceeds from the sale are sufficient to reduce the balance of your loan, you will have a lower amount of debt to settle.
Before you make a final choice, you should always think about how it might affect your credit score.
Making Extra Payments
It’s easier to say than to accomplish, but if you have extra money lying around, it can make financial sense to utilize it to pay down the loan sum more quickly. If you take this step, you might have more freedom and be able to sell the property whenever you want without needing permission from your current lender.
If you are currently paying high-interest rates on the money you owe, it may be in your best interest to refinance into a loan with more favorable terms. If you are eligible for lower rates, then your monthly interest payment will be cheaper. As a consequence of this, your payments may make a greater dent in the total amount owed on the loan, which may allow you to emerge from debt more quickly.
The Crux of the Matter
Being upside down refers to a situation in which you owe more money on something than it is currently worth, and it puts you in a challenging position. Getting out from under an upside-down loan often involves selecting one of the numerous undesirable escape hatches from among a number of available alternatives.
Although it would be preferable to pay off loans that are underwater with cash, in most cases, this is not possible. Get in touch with your creditor as soon as possible if something unexpected occurs that forces you to liquidate an asset, such as your car or home before you can make payments toward your debt.