How Car Depreciation Affects Your Auto Loan Value

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January 27, 2012

Car depreciation is an unavoidable fact, and in most instances, as soon as you take delivery of a vehicle, it is worth less than you paid for it. Unless you are fortunate enough to purchase a vehicle at a price far below its market value, the fact that your vehicle is probably worth less than you paid for it is one you simply have to live with. And if you finance your new or used vehicle, there may come a time that your vehicle is worth much less than you owe on it.

Many times, when people purchase a new or used vehicle, they don't consider the true value of a vehicle. In fact, most of the time, people are simply excited about buying a new vehicle and are in a hurry to take it home. While buying a new vehicle can definitely be an exciting and thrilling experience, there is a very important point to consider-how much you owe on the vehicle, after you leave the dealership.

Car Values Go Down Faster than Loan Balances

After you have taken delivery of a new or used vehicle, you will soon begin making payments on that vehicle. Because of the interest that accrues on a conventional car loan, the principal balance on the car loan usually decreases very slowly. Depending on the type of vehicle you buy, your car very well might depreciate at a much faster rate than the principal balance of the loan. When this happens, you inevitably come to a point where you owe more money to the bank than your car is actually worth. The term for this situation is affectionately known in the car business as being "upside down" in a vehicle. It simply means that, even if you sold your car, you would have to come up with extra cash to pay off the loan balance.

There are many factors, and reasons, that can cause this situation to occur: a lack of a trade-in, high interest rates and simply paying too much for a vehicle. However, the most common reason for this occurrence is the fact that many people make very little or no down payment at the time of purchase and choose to finance the entire amount (or close to it) of the vehicle purchase, taxes, licensing and registration. In doing so, you almost assure yourself of becoming "upside down" in your vehicle.

How to Avoid the Problem

Obviously, the way to avoid this situation is to either trade-in a vehicle that is worth a substantial amount, make a much larger down payment at the time of purchase or simply don't trade-in or sell your vehicle before you have paid it off. Keeping a vehicle for a period longer than the payment term of your loan will always result in you having some equity in your vehicle.

However, if you find yourself in the situation where you owe more than your vehicles is worth, and you have very good credit, you will probably still be able to purchase yet another vehicle with little or no down payment. Most lenders are only too happy to loan you more money than a vehicle is worth as long as you have good credit and can pay for it that is. Of course, if you take this course of action you've only increased the difference of the amount between your new car's actual worth and the amount you owe on the new loan.

So, before you rush out to buy a new vehicle, take some time to evaluate your present car loan situation. If you owe much more than your vehicle's worth, consider waiting for a while-at least until the difference is not so much. A little patience will save you from a lot of frustration and grief in the long run.

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