When trying to sell a car, there’s a couple of things to look out for. You wan’t to avoid scammers, you want to make sure you’re making the most out of your sale, and of course, you want to avoid paying money in order to make the sale. What, what? How does that work? Well, this article will help you understand the strange things that happen when you have negative equity.
What Is Equity?
To understand negative equity, we first need to understand regular Equity. It’s kind of a complex subject but basically it’s a fancy word for something you own, usually in reference to paying a loan.
In a mortgage for example, let’s say the house is worth $300,000 and you’ve paid off $100,000 of that mortgage, that means you have an equity of $100,000 in the house, minimum. Because equity also factors in the added value of the house from when you first bought it. Let’s say you bought the house at $300,000 but the value of the house has increased to $400,000 then your total equity in the house is the amount paid from the loan plus the difference in the original and new value, meaning your equity is $200,000.
What Is Car Equity?
Houses make this simple because houses are an appreciating asset, they gain value over time. Cars are a bit different because cars are a depreciating asset, meaning they lose value over time. That means the calculation for equity is going to be a bit different.
Step one is still the same, the amount of the loan you’ve paid so far let’s say it was a loan of $25,000 and $20,000 has been paid. However for step 2 you need to figure out the current value of the car. This will be different for any car you’re driving, and the best way to figure out what your car’s depreciation rate is is to search for the specific model, but for our case we’ll say the car’s value has depreciated by 50% in the years since the initial purchase.
The car is now worth $12,500. You might think that because you’ve paid more than the car is currently worth you have good equity in the car but that’s not exactly how it works. In order to sell a car you need to pay off the original loan in its entirety, meaning if you do sell you’ll need to pay the remaining $5000 on the loan.
Your equity in the car then is the current value of the car minus the amount still needing to be paid on the loan, in this case $7,500.
What is Negative Equity?
Negative equity is what happens when this calculation doesn’t work out. Let’s take the same example but say that only $10,000 of the loan has been paid off. If we do our calculation again that means we get an equity of -$2500. Uh oh. This is negative equity, it means the outstanding loan is worth more than the value of the car itself and if you were to sell you would have to pay an extra $2500 and wouldn’t make any profit on the sale. It goes without saying that’s a bad idea.
The only way to solve this is time, the more of the loan that’s paid off, the better equity in the car you have, and it’s best to sell a car when the loan is fully paid off.