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Trading in a vehicle that you still owe money on is a relatively simple process. Dealers will be happy to work with you on it and do most of the legwork. However, the process can be more complicated if you owe more than the vehicle is worth.
If you're thinking about trading in a financed car, here's what you need to know about how it works, the pros and cons to consider and some alternatives.
Can You Trade In a Financed Car?
Yes, you can trade in a financed vehicle; you don't need to own the vehicle free and clear. However, depending on how much you owe on the loan and what the vehicle is worth, the process may look a little different.
Trading In a Car With Positive Equity
Having positive equity in your car means the vehicle is worth more than the amount you owe on it. If you're trading in a car with positive equity, the dealer will pay off your existing loan and apply the remaining amount—your equity—as a credit toward your new vehicle purchase.
Example: Let's say you're buying a car for $10,000. If your trade-in is worth $5,000 and you still owe $2,000 on it, the dealer will pay off your loan, and your $3,000 in equity reduces the cost of the new car to $7,000.
Trading In a Car With Negative Equity
If you have negative equity in your car, it means you owe more than it's worth. In this case, you can still trade in the vehicle, but you'll need to figure out how to pay off the difference between the trade-in and the remaining loan balance. You may do this with a lump-sum payment to the lender, or you can ask the dealer to roll it into your new loan.
Example: Let's say your trade-in value is $1,000, and you still owe $2,000 on your loan. In this instance, you'd need to come up with $1,000 in cash to pay off the loan or add that amount to your new loan.
Learn more >> Is the Equity in My Car Positive or Negative?
What to Consider Before You Trade In a Financed Car
As you consider whether trading in your vehicle is the right move, here are some details you'll want to know:
- The trade-in value of your vehicle: You can estimate this using websites such as J.D. Power or Kelley Blue Book. Note that they'll provide you with a value range, so there's often room for negotiation at the dealership.
- How much you owe: Log in to your online account with your lender to find out how much you still owe and compare it to your car's trade-in value. Note that you'll need to look at the payoff amount, which includes interest that's accrued since your last payment.
- Your budget: Once you know whether you have positive or negative equity, think about how much you want to spend on the new vehicle. If possible, avoid a situation where you roll negative equity into a new loan. Also, consider the interest rate and monthly payment on the new car loan to determine whether they fit in your budget.
- Your loan options: You'll have a couple of options when financing a car purchase. First, you can allow the dealer to take care of it. They'll submit your credit application to multiple lenders and provide you with options. Keep in mind, though, that dealers may take a cut for arranging the financing, which can increase your interest rate. The other option is to get direct financing by contacting lenders on your own. It requires you to do more work, but it could save you some money.
Also, keep in mind that you can generally get a better price by selling your car in a private-party transaction, but it typically requires more legwork on your part.
Learn more >> When Is the Right Time to Trade In a Car?
Pros and Cons of Trading In a Financed Car
Before you proceed with trading in your car, take some time to understand the advantages and disadvantages, especially in how they relate to your situation.
Pros
- It could reduce your monthly payment. If you have positive equity in your car, using that to drive down the cost of the new car can result in a lower payment. Even if you have to roll negative equity into the new loan, you could end up with a lower payment if the new vehicle is much less expensive.
- Positive equity can be used as a credit. If you have positive equity, you can use that to drive down the cost of the new car, resulting in a lower loan amount and monthly payment. Depending on how much positive equity you have, you may not even need a down payment.
- It's convenient. Trading in a vehicle is much more convenient than selling it in a private-party transaction. The dealer does a lot of the work for you, and you don't have to worry about listing it, fielding questions from potential buyers, being available for test drives and more.
Cons
- You may need to make a lump-sum payment. If you have negative equity that you can't roll into the new loan—or don't want to—you'll need to make a lump-sum payment to cover the remaining balance on your loan.
- You'll get less for your car. While trading in a car is convenient, it won't net you as much as selling the vehicle on your own. In some cases, the difference can be thousands of dollars.
- You could end up with a higher payment. Trading in a financed vehicle for a car with a higher monthly payment could negatively impact your budget. It may also require you to purchase gap coverage to protect you in the event that your vehicle is totaled.
How to Trade In a Financed Car
If you've decided to trade in your vehicle, here are some steps to maximize your savings.
1. Check Your Credit Score
Before buying a new vehicle, register to get free access to your Experian credit report and FICO® Score☉ . These resources can give you a sense of where you stand and can also help you determine which steps you need to take to improve your credit, if necessary.
While you don't need perfect credit to get approved for a car loan, a score in the 700s or higher can boost your odds of securing favorable terms.
2. Prepare Your Car for the Trade-In
Take some time to get your car cleaned up and to take care of minor repairs. You don't necessarily have to pay to get it detailed, but that can help if you don't have the time or materials to clean it up yourself.
Taking care of smaller repairs can also help. Since the dealer won't have to do it themselves, they may knock off more cash than you'd pay for the repairs.
3. Be Prepared to Negotiate
When looking up the trade-in value of your car, you'll be given a range of values based on the car's condition and other factors such as mileage and the age of the car.
Knowing that range ahead of time can help you negotiate a good price with the dealer. If they're not willing to negotiate, try a different dealer. In fact, shopping your car around could help you maximize the value of your trade-in.
4. Gather Your Paperwork
Start by getting your car's 10-day payoff letter from your lender. Depending on the lender, you may be able to get it from your online account, or you may need to call customer support. You'll also want to bring your vehicle registration, proof of insurance and any proof of recent maintenance and repairs.
5. Leverage Your Positive Equity
If you owe less than the car's trade-in value, you can use that equity as your down payment for the new vehicle. Alternatively, you could request to get the difference in cash and use the money however you want. But if a lower monthly payment would be better for your budget, use it to reduce the cost of the new vehicle.
6. Think Twice if You Have Negative Equity
If you owe more than your car is worth, consider waiting to buy a new car until you can pay off the original loan on your own or pay the dealer the difference in cash. Rolling that difference into the new loan could put more pressure on your budget and cause more problems down the road.
7. Get Written Confirmation of the Payoff
The dealer typically takes care of the process of paying off your old loan when you buy a car with a financed trade-in. However, it's still a good idea to notify your lender, especially if you have a payment coming up soon.
More important, make sure you get written confirmation from both the dealer and the lender that your old loan has been paid in full. The last thing you want is a surprise bill because the dealer took too long to pay off the loan.
Learn more >> How to Trade In a Car
Alternatives to Trading In Your Car
Depending on your situation, there may be other options you can explore, especially if you have negative equity in your vehicle.
Sell the Car
As previously mentioned, selling your car to a private buyer can net you more money than a trade-in to a dealer. That's because, unlike a dealer, a private buyer isn't looking to turn around and re-sell the vehicle for a profit.
Selling a car to a private party does require more work, but it can be worth it if it helps resolve an issue with negative equity.
Refinance Your Loan
If you're thinking about trading in your vehicle to get better loan terms on a new car, you may consider refinancing your loan instead. This option may be particularly beneficial if you can qualify for a lower interest rate than what you're currently paying.
Continue Making Payments
If you have negative equity in the vehicle, it may make sense to simply keep making payments until that's no longer the case. Depending on the loan amount and vehicle's value, though, it could take anywhere from a handful of months to a few years to get there.
Frequently Asked Questions
Ultimately, it depends on whether you have positive or negative equity in the vehicle. If you owe more than the car is worth, for instance, paying off the difference or rolling it into your new loan can create an additional financial burden.
However, if you have positive equity, you can use that to reduce the cost of your new vehicle.
There's no restriction on when you can trade in a car. However, doing so shortly after financing it may not be the best idea, especially if it's a new vehicle.
That's because new vehicles tend to depreciate significantly as soon as you drive off the lot. So unless you made a sizable down payment on the purchase, you may already have negative equity, which can complicate a trade-in.
The Bottom Line
Before trading in a financed vehicle, it's important to gauge how much equity you have. Even if the car is worth more than the amount you owe, it's important to understand the pros and cons and research alternatives before proceeding.
It's also important to monitor your credit score throughout the process to make sure you're ready to buy a new vehicle. Regardless of your car's worth, building great credit can be your key to savings on the new loan.