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To know if you have positive or negative equity in your car, all you need to do is subtract how much you owe on the vehicle from its current market value.
Knowing whether your equity is considered positive or negative is important if you're thinking about refinancing your car loan, selling the car or trading it in to a dealership. Here's what you need to know.
What Is Positive Equity in a Car?
When borrowing money with a traditional auto loan, the vehicle acts as collateral for the loan. So if you end up defaulting on the debt, the lender has the right to repossess the car and sell it at auction to recoup what you owe.
Positive equity occurs when the market value of the car exceeds the principal amount on your loan. For example, if you owe $10,000 on a car with a current market value of $12,500, you have $2,500 in positive equity.
Having positive equity with a car loan is a good sign for both you and the lender because it means that if you sell the car, you'll make enough to pay off the loan in full, leaving the lender satisfied and you without any extra debt.
What Does It Mean to Have Negative Equity?
If you have negative equity with your car loan, it means the market value of the car is less than the principal amount of the loan. As an example, a $12,500 auto loan balance on a car now worth $10,000 leaves you with $2,500 in negative equity.
Negative equity can potentially cause problems for both you and the lender. If your car is totaled, for example, you may not get enough money from your insurance company to pay off the loan in full. And if you can't pay off the negative equity amount, the lender could be out that money.
Also, if you sell your car or trade it in when buying a new one, the sales price won't be enough to pay off the loan in full. To satisfy the lender in this scenario, you'll typically need to pay a lump sum amount of the difference, closing out the loan.
In some cases, a dealer may pay off the full loan amount for you and roll the amount of the negative equity into your new loan. While this may seem appealing, keep in mind that it'll increase your new loan amount and you'll continue to pay interest on it.
How to Check the Equity in Your Car
Remember, to calculate your car's equity, you'll need to subtract the principal amount of your auto loan from the car's current value. While you can check the current loan amount by logging in to your online account with the lender, getting the car's fair market value takes a bit more time.
One way is to look up the car's value on Kelley Blue Book. You'll enter the car's year, make and model, as well as its current mileage and your ZIP code. If the model has more than one style, you'll choose yours from a list, then get the value with the car's standard equipment or options.
Finally, you'll provide the color of the car and its current condition—you can take a quick quiz if you're not sure.
As an example, a 2014 Hyundai Santa Fe Sport in good condition with 102,000 miles is worth roughly $8,237 if you were to trade it in. And if you were to sell it to a private party, you could get around $11,000 out of the sale.
If you owed $7,000 on the car, your equity would be positive, with $1,137 in positive equity with a trade-in or about $4,000 in positive equity with a private sale. In contrast, if you owed $9,500, you would have negative equity if you were planning to trade it in and positive equity if you were planning to sell it to a private party.
In this scenario, it's essential to know how much equity you have based on the type of sale so you can make the best decision for the situation.
When Is the Right Time to Trade in My Car?
Trade-ins typically net a lower sales price because the dealer then turns around and marks it up to sell to the next owner. As a result, it's usually better to sell your car to a private party.
If you don't have the time to go through that process or simply prefer the convenience of dropping the car off at the dealership as you pick up your new one, trading it in may be a better choice.
The best time to trade in your car is when you have positive equity. If you have negative equity, you'll be on the hook for paying off the remainder of the loan, either immediately or in the form of a larger new loan. While the latter option sounds appealing, it may be better to wait until you can pay down your current auto loan balance first, if possible.
One exception to that rule is if your credit has improved significantly since you got the first loan. Even if you roll the negative equity into your new loan, a much lower interest rate can save you money if the alternative is continuing to pay a high rate on your original loan.
Is Now the Right Time to Trade In?
If you're considering buying a new car and trading in your current one, run the numbers to find out whether you have positive or negative equity. If you can manage to sell the car to a private party and get more money out of the transaction, try that route first.
If, however, trading the car in is the best option for you and you have negative equity, you can check your Experian credit score to see if you might be able to get a lower interest rate on the new loan. If so, trading in could end up saving you money in the form of lower interest charges.