Many Americans Are Car Poor From Their Auto Loans

Many Americans are car poor.

A recent Edmunds report found a disturbing trend: An increasing number of consumers with auto loans had negative equity, meaning they owe more on their vehicle than it’s worth — a lot more.

As of the third quarter that ended Sept. 30, Edmunds said 24.2 percent of trade-ins applied toward a new vehicle purchase had negative equity. The average upside-down loan spiked to an all-time high of more than $6,400.

Look at the outliers. Of those with negative equity, 22 percent owed $10,000 or more, and 7.5 percent owed $15,000-plus.

If borrowers don’t have the cash to pay off the old loan, all that negative equity gets rolled into the new one. This means the next vehicle also starts with negative equity, creating an expensive cycle of debt.

“Consumers owing a grand or two more than their cars are worth isn’t the end of the world, but seeing such a notable share of individuals affected at the $10,000 or even $15,000 level is nothing short of alarming,” said Jessica Caldwell, Edmunds’ head of insights.

What’s contributing to this topsy-turvy issue?

In 2021 and 2022, a lack of inventory — in part because of pandemic-related shortages — drove up prices (pun intended) so much that many buyers were willing to pay more than the manufacturer’s suggested retail price. The higher prices meant consumers weren’t paying down the principal of their loans like in the past, Caldwell said.

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This year, I replaced my beloved 2006 van with a hybrid SUV. But I refused to pay dealer markups that ranged from a few thousand dollars to as much as $10,000 above MSRP. If you overpay, you increase the risk of going underwater.

Consumers also are opting for longer loans and trading in their vehicles earlier than is financially prudent, according to Caldwell.

Edmunds also found that monthly payments of $1,000 is still trending high, coming in above 17 percent. It’s been at that level since the second quarter of 2023.

“The danger is for the folks that stretch themselves into these high payments who cannot afford them,” Caldwell said. “They could be in a situation where they need to get rid of their vehicle because they can no longer make the payment and in that case, a situation where their loan is worth more than their vehicle is very common. Especially early on in the loan.”

Here’s my advice, because I like to put data in perspective.

There are things you want to run long. Like vacations. I prefer two-week stretches because one week is just not enough time to wind down. If you’re an investor, playing the long game helps with your returns — this is how 401(k) millionaires are made.

But the one thing where time is absolutely not on your side is the length of your auto loan.

An increasing percentage of car buyers are opting to stretch their monthly car payments far longer than what used to be the traditional four-year loan.

Consumers are signing up for longer loan terms to ease the pain of higher prices, according to Edmunds. For the third quarter, 69 percent of new-vehicle loans had terms over 60 months. On the rise are 84-month terms, which account for 18.1 percent of new-vehicle loans.

“Longer loan terms might make monthly payments more palatable for consumers, but the harsh reality is that most Americans don’t want to keep their vehicle for seven years,” said Ivan Drury, Edmunds’ director of insights.

When life happens, a long auto loan can make things worse.

I was helping a couple whose husband lost his job. They couldn’t afford two car payments, and both vehicles were underwater. They had no savings and were not in a position to come up with several thousand dollars to satisfy their loan if they sold the car.

So they either had to keep making monthly payments they couldn’t afford or let the lender repossess the car. They chose the latter. And though the car was later sold at auction, they still were on the hook for the loan balance plus costs associated with the repossession.

Edmunds.com has a car affordability calculator. Plug in the monthly amount you can comfortably afford and it will give you a vehicle price range.

Currently, the average new car loan interest rate for a buyer with excellent credit is 5.25 percent, according to Experian. But that average jumps to 15.77 percent if you have a poor credit score. For used-car buyers, those averages range from 7.13 to 21.55 percent, depending on the borrower’s credit history.

In the calculator, I entered $500 over 48 months at an interest rate of 5.25 percent with a $1,000 down payment and no trade-in. The results: Buy a car priced between $18,000 and slightly over $21,000.

Here’s my bottom line: If you need to take out a seven-year auto loan, you probably can’t afford the vehicle.