Underwater Loans Put Consumers at Risk

Released on August 1, 2017

A growing trend known as negative equity financing is putting consumers in a risky financial position.  Put simply, it is when a buyer owes more than the vehicle is worth.  A recent report by the Financial Consumer Agency of Canada suggests new vehicles are typically purchased every three to four years and the average length of an auto loan now exceeds six year, demonstrating a growing trend toward negative equity financing.

How does this happen?  Typically, consumers will trade-in a vehicle they still owe money on, and roll the debt forward into the financing of a new vehicle, adding their old debt to new debt.  At a glance, advertisements offering low rates, longer terms and low monthly payments make vehicles seem attractive and affordable, but it is important to know financing a vehicle this way may make it difficult to pay off the loan.

One example of consumer risk is if a vehicle is destroyed.  Depending on the policy, the insurance company will generally pay what the vehicle was worth, not what the consumer owed, meaning the consumer may be on the hook for a large debt and have nothing to show for it. 

Tips to avoid negative equity:

• Pay off existing vehicle loans.  Avoid rolling negative equity forward into new purchases.
• Don’t focus on a low monthly payment.  Look at the total cost of the loan.
• Buy within your budget and stick to it.
• Consider a shorter term loan.  Longer term loans are typically more expensive.