When it comes to financing a vehicle, particularly when there’s negative equity in play, understanding how banks determine the loan amount becomes pivotal. Many borrowers have this nagging question, “How much negative equity will a bank finance?” Let’s demystify this.
Setting the Record Straight: The LTV Factor
First and foremost, it’s crucial to grasp that banks don’t directly finance negative equity in the sense of blindly covering the shortfall. Instead, they have a system rooted in assessing risk: the Loan to Value (LTV) ratio. This ratio determines how much of the total value (including any negative equity) they are willing to finance based on various factors, primarily the borrower’s credit rating.
So, when you hear someone say, “How Much Negative Equity Will A Bank Finance?,” what they mean is what combined loan amount (new vehicle plus negative equity) will fall within the bank’s acceptable LTV range for their credit rating.
The Importance of Credit Rating
Your credit rating, indicated by your credit score, becomes the yardstick when trying to trade out of an upside down car loan. The better your score, the more favorable terms you’re likely to receive.
Let’s glance at the general data table to better understand how LTV varies with credit rating:
| Credit Rating | Credit Score Range | Max LTV |
| Great Credit | 781-850 | 1.30 |
| Good Credit | 661-780 | 1.25 |
| Fair Credit | 601-660 | 1.20 |
| Poor Credit | 501-600 | 1.15 |
| Bad Credit | 300-500 | 1.10 |
| No Score | 0 | 1.05 |
A Simple Illustration: The $50,000 Car Scenario
Suppose you’re eyeing a car priced at $50,000. On top of that, there’s a 7% sales tax and $300 in dealer and other associated fees. But here’s the catch: You have negative equity from your previous vehicle.
It’s crucial to understand that taxes, dealer fees, and other associated costs, while vital to the total amount you’d need to pay, don’t add inherent value to the vehicle itself. Hence, from a bank’s perspective, they’re not included in the LTV calculation, which is based solely on the value of the asset being financed. Using the sample values above, the total cost of the vehicle would be:
Total costs (car + tax + fees): $50,000 + ($50,000 * 0.07) + $300 = $53,800
Let’s break down how much negative equity can be wrapped into the loan for different credit ratings using our $50,000 car:
Great Credit (1.30 LTV):
- Max financeable amount based solely on the vehicle value = $50,000 * 1.30 = $65,000
- Negative equity limit = $65,000 – $53,800 = $11,200
Good Credit (1.25 LTV):
- Max financeable amount = $50,000 * 1.25 = $62,500
- Negative equity limit = $62,500 – $53,800 = $8,700
Fair Credit (1.20 LTV):
- Max financeable amount = $50,000 * 1.20 = $60,000
- Negative equity limit = $60,000 – $53,800 = $6,200
Poor Credit (1.15 LTV):
- Max financeable amount = $50,000 * 1.15 = $57,500
- Negative equity limit = $57,500 – $53,800 = $3,700
Bad Credit (1.10 LTV):
- Max financeable amount = $50,000 * 1.10 = $55,000
- Negative equity limit = $55,000 – $53,800 = $1,200
No Score (1.05 LTV):
- Max financeable amount = $50,000 * 1.05 = $52,500
- Negative equity limit = $52,500 – $53,800 = ($1,300)
From this breakdown, it’s evident that as one’s credit rating declines, the amount of negative equity that can be rolled into the new loan drastically reduces. For those with a ‘No Score’ or ‘Bad Credit’ rating, the wiggle room is essentially $0. This means that trading in a car with bad credit and negative equity may be very difficult. It emphasizes the importance of credit health, not only for favorable loan terms but also for flexibility in managing and restructuring debts.
The bank’s LTV threshold ensures that those with weaker credit scores aren’t overburdened with a loan that’s significantly higher than the vehicle’s worth. This protective measure prevents them from sinking further into debt and protects the bank the vehicle is repossessed.
The Silver Lining
Expensive Vehicles and LTV:
Remember, since LTV is a percentage, the absolute dollar amount you can finance increases with the value of the vehicle. This means it’s easier to roll over more negative equity into a pricier vehicle. However, while this might seem like a loophole, it’s important to remember that a pricier vehicle often means higher monthly payments and potentially more financial strain.
Getting the Most Out of Your Trade:
If you have negative equity it’s essential the you go the extra mile to get the most money for your trade-in.
- Know Your Vehicle’s Worth: Before heading to a dealership, do some research. Platforms like Consumer Reports can provide you an estimated value for your car based on its make, model, year, and condition.
- Invest in Minor Repairs: Sometimes, a small investment in fixing obvious defects or maintenance issues (like changing worn-out tires or repairing minor dents) can significantly increase the trade-in value of your vehicle.
- Clean Your Vehicle: It might seem obvious, but a clean, well-presented car can fetch a better trade-in price. This includes vacuuming the interiors, washing the exterior, and clearing out personal items.
- Negotiate the Trade-in Separately: When discussing your trade-in at a dealership, keep the conversations about the new car purchase and the trade-in separate. This ensures clarity and prevents the dealer from bundling the two, which can sometimes obscure whether you’re getting a fair deal for your trade-in.
Leverage New Car Rebates:
- Understand the Power of Rebates: Manufacturers occasionally offer rebates on new cars, which can range from a few hundred to several thousand dollars. These rebates directly reduce the vehicle’s purchase price but not the LTV, thus increasing the amount of negative equity you can roll into the new loan.
- Stay Updated: Rebates vary by region and are often limited-time offers. Keep an eye on manufacturer websites, or sign up for newsletters to stay informed about current promotions.
- Opt for the Right Vehicle: The best cars to absorb negative equity come with more substantial rebates than others, usually to boost their sales or clear out older inventory. If you’re flexible about the model or brand, you might be able to leverage a significant rebate by choosing a vehicle that comes with bigger incentives.
- Combine Offers When Possible: Some dealers or manufacturers may have multiple offers or promotions running concurrently, like a cash rebate plus a low-interest financing deal. Always ask if you can combine these offers, as doing so can compound your savings.
Wrapping It Up
When considering rolling negative equity into a new loan, always keep the LTV in mind and understand your credit rating’s role. Although banks might be willing to finance negative equity up to a certain threshold, it’s essential to assess if this is financially sensible for you. After all, the goal isn’t just to get the loan – it’s to comfortably repay it without landing in further financial turmoil. Always strive for a sound financial decision over a short-term solution.
AutoByPayment.com offers accurate estimates of new and used car loan payments based on self-selected credit score, current rebates, down payment, and trade equity or negative equity, without customers having to provide their personal identifying information such as email and phone.
