Upside down in my loan

Dear Dr. Don,
I owe $4,000 more on my car than it is worth. What should I do? Should I get a lease or loan for a new car and pay the $4,000, or should I roll the $4,000 into the new lease or loan? Thanks. -- Rueben Roadster

Dear Rueben,
It's good that you recognize that one way or another you're going to pay the $4,000. Owing more than the car is worth is called being upside down in the loan. It happens a lot, especially with new car purchases when a car buyer doesn't put much money down. Being upside down in a loan only becomes a problem when you go to sell the car. You can't pass clear title without paying off the loan so you have to come up with the funds.

As you point out, one way to get out of the loan is to roll the unpaid balance into the lease or loan of your new car. This isn't a very good idea. Car loans are secured by the lender having a lien on the car's title. When you borrow more than the car's purchase price, the loan isn't fully collateralized. The lender is going to have to price the loan for the increased risk. That raises your loan rate substantially over prevailing rates for a conventional auto loan. It also can reduce your ability to negotiate on the new vehicle's purchase price, making the effective cost of the loan even more expensive. Rolling the balance into a lease is an even more difficult proposition.

You haven't made a decent case for why you need to trade in your current car. Being upside down in the loan isn't reason enough to trade in the car. Another year of payments, less another year's depreciation could get you back in the black on this car loan.