Why you shouldn’t roll over your car loan

If you have your eyes on a new — or used — car, trading in your current model is the most common way of switching rides. But that’s only good if you have positive equity or owe less on your vehicle than it’s worth.

If you have negative equity, lenders and dealers may offer to roll over your current loan into your new one — don’t do it. Rolling over your car loan increases the negative equity of your vehicle, making it much more expensive in terms of interest and monthly payment. It can also make it more difficult to trade in or sell down the line.

How does rolling over your car loan work?

Rolling over your car loan is the process of adding the negative equity, or remaining car loan balance, of one vehicle loan into your next. If you are trading in your car but still have a current balance, dealers may offer to roll your previous balance into your new vehicle.

This is not a good idea, as it carries the risk of becoming upside-down on your loan for an extended period, and it’s best to consider alternatives first.

For example, if you have $15,000 left on your auto loan but your car is only worth $10,000, a lender may offer to wrap that $5,000 into your next loan. This will increase the amount you borrow — and mean that you borrow more than the vehicle is worth.

You’ll wind up paying interest on both loans at once, and it can be a difficult cycle to break. Unless you need to, it is often a better financial decision to keep driving the car you have until you pay off your loan. After that, you can sell or trade it in without having to worry about rolling over the loan amount.

What is the risk of rolling over your current loan?

By rolling over your current loan, you increase the amount you owe. As this balance increases, you are more susceptible to owing more on your loan than your car is actually worth, also known as being upside-down on your loan. On top of this, your monthly cost will likely increase as you will be paying for more than just your new vehicle.

Being upside-down on your loan isn’t always an issue, especially if you plan to keep your car for the long haul. But if you go to sell your new ride and are underwater, you may be left paying the difference.

Think of it this way: The moment you drive off the dealer lot, your vehicle begins to depreciate. So when you add another loan onto your already existing depreciating vehicle, the problem worsens.

By rolling over your current loan, you will be responsible for both the amount remaining on your first loan and the value of your new vehicle.

Alternatives to rolling over your car loan

Before agreeing to roll over your car loan, consider other options. Here are some alternatives to keep your financial health in a more positive spot.

• Pay off your current loan first: The best option is to pay off your current loan before signing off on a new vehicle. This will ensure that costs are not building on one another and lower your risk of becoming upside-down. There are many ways to pay off your loan faster, like refinancing or removing unnecessary add-ons.
• Buy a used car: If you must purchase another vehicle immediately, consider buying used. Although there is still the risk that comes with any loan rolling into a previous one, you will likely finance it for less, thus lowering any building debt.
• Sell your vehicle privately: To get rid of your current car, consider selling it privately rather than trading it in at a dealership. You will likely make more money this way and then can have more to put down on your next car.

How to avoid the need to roll over your car loan

Opting for a less expensive vehicle, estimating your car’s future value and choosing to lease are all ways to avoid rolling over your car loan in the future.

1. Buy a less expensive vehicle

To avoid paying off a car for longer than you plan on driving it, use a car loan calculator to find how much you can afford with a shorter loan term. It will mean higher monthly payments, but spending less and choosing a term under 60 months will help you avoid negative equity.

Before you start shopping, check out Bankrate’s choices for the best value vehicles. You can also look at Kelley Blue Book or Edmunds for their estimates on how much a make and model will be worth in a few years.

2. Understand negative equity

Negative equity is when you owe more than your car is worth. For instance, you owe $20,000 on a loan but the vehicle will only sell for $18,000. It may not seem like much, but a few thousand dollars can put you underwater — and make future financing difficult.

You can calculate negative equity to understand what your car payments would be if you rolled your equity into your next vehicle loan.

3. Lease instead of buying

If you’re not fond enough of a car to keep more than a few years, you may want to consider leasing. Typically, leasing costs less per month than buying an equivalent car. However, you’ll be subject to mileage limits, and you’ll have to pay fees at the end of the lease.

When you’re comparing options, check current auto loan rates. This can help you determine if leasing will be less expensive or if you should choose a loan term of three years — and own the car once it’s paid off.

The bottom line

While the need for a new vehicle can be unpredictable, if possible, avoid rolling over your current loan into a new one. Wait to buy your next car until after your current loan is paid off.

olling over your car loan is a huge financial risk that could mean taking on more debt, which can impact your finances beyond your auto loan.