Buying a car is exciting, but financing it incorrectly can put you in a very vulnerable financial situation known as negative equity (when you owe the bank more than your vehicle is worth on the market).
The Rapid Depreciation Problem
A new car loses approximately 10% of its value the moment you drive it off the lot, and up to 20% by the end of the first year. If you make a minimal down payment (such as 5% or 10%) and choose a long loan term (60 to 96 months), you will owe more than the car is worth for most of the loan duration.
The 20% Rule
To protect yourself against this problem, financial experts recommend the golden rule:
- •Provide at least 20% of the vehicle value as a down payment. This immediately absorbs the depreciation hit of the first year.
- •Choose a loan term under 60 months (5 years). This way, you pay off the debt faster than the car depreciates.
What if you make extra prepayments?
If you already have an active car loan with a low down payment, making extra principal payments will help balance the scale quickly, shaving months off the term and taking you out of the negative equity danger zone.
- •Calculate your budget: Use our Car Loan calculator to estimate your ideal monthly payment based on the down payment you plan to give.*