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Negative equity

Find out more about what negative equity is, learn how to avoid it, and read our tips on dealing with it

If you wish to sell your car before the end of your car finance agreement, you may discover that your car is in negative equity . It’s important to understand what the term negative equity means, how you can try to prevent it and what to do if you do find yourself with negative equity.

What is negative equity?

In car finance, the term 'equity' is often used to mean the difference between the current value of the vehicle and any outstanding finance left to pay. If the vehicle is worth more than the amount left to pay under its finance agreement, that is sometimes called positive equity, or just equity. You can then use that 'equity' towards the cost of the new vehicle. However, if you still have more to pay under the finance agreement than the car is then worth, that difference is described as 'negative equity'.

What is negative equity car finance?

Negative equity finance is a financial arrangement that allows you to pay for a new car alongside repaying the amount due from your previous agreement. The negative equity finance deal absorbs the original agreement to include any outstanding amount. The monies owed from both the new and previous cars are combined and paid as one fixed monthly payment. This allows drivers to pick a less expensive car model or take out finance on a new car with lower monthly payments.

As long as the new car or van you pick is substantially cheaper than your existing vehicle, it should bring your costs down overall. However, you must also be aware that carrying your negative equity over can increase the risk of landing yourself in more financial difficulty. The outstanding money that is added to your new agreement will still need to be paid with added interest and fees on top.

Why does negative equity occur?

The specific reasons why negative equity occurs can vary; it could be that a car has depreciated faster than was originally expected, or that the car was never worth as much as the buyer thought it was when they bought it. For example, it may be worth less than the owner expected because:

  • They paid too much for the car in the first place
  • The car has been damaged
  • It’s an undesirable specification or colour

Most cars naturally depreciate or lose their value over time, generally newer cars tend to depreciate faster than older models but as they age the depreciation slows down. The first owner of the car will have paid 20% VAT on the car, but once a car is used, the next buyer doesn't pay VAT on the car at all. Factors that can impact a car’s value over time include:

  • The condition of the car
  • The age of the car
  • The mileage of the car
  • The economy
  • The strength of the used car market

In car finance, negative equity normally happens when a vehicle depreciates in value faster than a customer repays the finance on it to the finance company.

Your car is in negative equity, what does this mean for you?

Having negative equity can become a problem in a number of different scenarios;

1. If you have an accident, and the car is written off, insurance companies will normally only pay out the market value of the car at the time of your claim. This means you’d be left to make up the difference to your lender out of your own pocket.

2. If your circumstances change for whatever reason and you can no longer afford your monthly payments, normally you could sell your car and use that to pay off what you can on your car finance agreement if you have one. However, if you have negative equity, you may not be able to recover the amount of finance outstanding.

How different finance agreements impact the equity on your car

The impact of negative equity will vary according to the type of finance agreement you have. The table below explains the difference between negative equity with a personal contract purchase (PCP) agreement and a hire purchase (HP) agreement.

Negative equity with hire purchase agreement (HP)

When buying a car with a hire purchase agreement, negative equity is less of a problem. HP agreements involve paying a fixed monthly fee, and owning the car outright at the end of the term. The higher repayments mean you generally keep up with the depreciation of the car’s value. Because you’re paying off the total value of the car more quickly than if you had an equivalent PCP agreement, it’s less common to fall into negative equity.

If your car is in negative equity and you are struggling to sell it and meet the shortfall on your agreement, you can take out a new negative equity car finance agreement on a cheaper vehicle. It’ll need to be cheaper to incorporate the negative equity amount from the previous agreement.

Negative equity with personal contract purchase agreement (PCP)

When you get a PCP finance agreement on a new car, your dealer will provide you with what is known as a GFV (Guaranteed Future Value). This guarantees what the car will be worth to them at the end of the finance term - meaning that you, as the car owner, know what you'll need to pay to keep the car at the end of the contract.

PCP agreements typically include an optional one-off payment – known as a balloon payment – which is made at the end of the deal in order to purchase the vehicle outright. Quite often when the dealer sets the GFV, it'll be slightly above what the car is actually worth, resulting in a small amount of positive equity that the owner can use towards a deposit on another car.

If the buyer chooses to keep the car and pay the balloon payment, it is possible that the car will be worth less than this amount, but by that stage the buyer will own the car outright and no longer be in a finance agreement.

What can you do if you have negative equity?

So, what are your choices if your car is in negative equity?

Do nothing

Unless you really have to sell, you are much better sitting tight and riding the equity out. If you have a hire purchase agreement you can continue making your repayments until the end of your loan term or if it’s a PCP deal, you can simply hand the car back. Being in negative equity early on in a car finance deal is not unusual and it may well even itself out. Don’t panic if you see your car’s value drop as the equity only becomes an issue when you are looking to sell the car.

Pay the difference

Depending on the type of finance you have, you could potentially sell or trade-in your car and make up the difference yourself from your own pocket.

Apply for negative equity car finance

You could choose to trade your current car in for a cheaper model and take out negative equity finance to make the payments more affordable. A negative equity car finance arrangement will incorporate any outstanding payments owed from the previous finance agreement.

Voluntary termination

You have the right to voluntarily terminate your agreement. You’ll need to return the vehicle and pay any overdue monthly repayments. If you have paid less than one half of the total amount due, you’ll also need to pay an amount to bring your payments up to one half of the total amount payable. You’ll also need to return the vehicle in a reasonable condition. If you don’t (or if you have exceeded any agreed mileage), there may be further costs. If you find yourself unable to meet your repayments or are worried about negative equity on your car, it’s always worth talking to your lender.

If you're an Oodle customer and have had a change in your financial circumstances, you can talk to us to see how we can help. Get in touch with us on Live Chat to speak to an advisor.

Negative equity FAQs

  • Can I change contracts if I have negative equity?

    Yes, it’s not uncommon for customers to change from one finance deal to another before the end of their existing contract. However, if the car is in negative equity, you will transfer the existing negative equity to the new contract. This will be added to the agreement and increase the monthly payments. The lender should be clear with you about this, but don’t be afraid to ask if you’re in doubt.

  • Can I sell a financed car with negative equity?

    When it comes to selling a car on finance or if you want to part-exchange that car, you will need to pay back the entire finance balance in order to be able to make a sale, as the lender remains the owner until the car is paid for. However, the issue is that if the car is now worth less than the finance balance, you would then need to make up the difference.

  • Can I get car finance if I have negative equity?

    There are some specialist lenders who can provide finance options for people in negative equity, called negative equity car finance. These finance agreements can help people who are looking to trade in their current car for a newer or cheaper model and combine the cost of clearing the negative equity and the price of a new car into one monthly payment. However, In the majority of cases you would actually be better sticking with your current agreement unless this is financially unmanageable and even then, Oodle can help find a solution to allow you to keep the car.