Car Finance Equity Explained

 

If you have a car on finance that you’re repaying the loan on, equity is something you’ll need to be familiar with. Essentially, it’s the difference between what you owe for the car to pay off any remaining finance owed and the current value of the vehicle.

Are you interested in a car on finance but not sure what is meant by equity? Read on to find out everything you need to know about car finance equity in this guide.

 

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Positive and negative equity explained

 
Car finance equity
 

Depending on what this calculation works out as, you can be in positive or negative equity. With PCP (Personal Contract Purchase) finance it’s important to know where your position is with equity to understand what the best course of action is to take at the end of your agreement.

Being in positive equity means that the value of your vehicle at the end of your agreement is higher than the value that the finance provider estimated it to be. This is fairly common because providers tend to calculate the future value of their cars on PCP with a ‘worst-case scenario’ approach for the price in mind.

 

Being in positive equity means that you can use extra money towards the deposit on your next vehicle.

 

On the flip side, negative equity is when the car is worth less than the GMFV (Guaranteed Minimum Future Value, also known as the ‘balloon payment‘) at the end of the contract. In this case you don’t have to panic – you won’t need to pay any extra fees. The finance provider will take the whack if you just want to hand the car back and walk away.

Related:  What Is PCP?

However, things get slightly more complicated if you’ve decided that you want to own the car. If you plan to own your car then you’ll need to pay off the remaining finance, including any balloon payment or fees at the end.

You can refinance any remaining balance you owe for your car if you can’t afford to pay it all off in one go. You should remember that by doing this, your agreement will take the form of a Hire Purchase. so you’ll pay off the remaining finance and become the owner.

A good rule of thumb for helping you decide whether to refinance the balloon payment is if the car is worth less than it, then you may want to consider giving it back. This way you can buy a similar used model for less, meaning you don’t lose money on the car.

 

How do you calculate equity in a car?

 
Red Car And Stack Of Coins On Seesaw
 

To easily find out how much equity you have in a car, just subtract the remaining balance you owe to the finance provider from its current value. If you plan on owning your car at the end, you’ll need to include the final balloon payment within the total remaining finance owed.

Ensure you get an accurate current value of your vehicle before calculating any equity. You can do this with the vast number of online free car valuation tools available to you. However, be sure to check that all the details you enter about the car are as accurate as possible, especially the current mileage.

 

How do you get rid of negative equity in a car?

 

When you enter a car finance agreement, it’s likely that you’re going to be in negative equity at the start. Most of the depreciation, especially on new vehicles, happens in the first 12 months. After this it begins to slow down and negative equity becomes less of an issue as you pay off more of the car.

 

Despite this, if you’re in a situation whereby you’re approaching the end of your PCP agreement and negative equity is a problem, here are some ways you can get rid of it.

 
  1. Hand the car back: on a PCP deal, you don’t have to pay off any negative equity – this is for the finance provider to take the brunt of. So, as long as you’ve kept the car in good condition and haven’t gone over your agreed annual mileage, you won’t have anything more to pay.
  2. Transfer to a new car: dealerships will often encourage you to switch to a new car on a separate agreement, even if you’re still in negative equity. If you need a new car then this option can be sensible, but it’s important that you remember any finance owed will roll into this new agreement. It’s good practice to look at lesser models than your previous car in this scenario so that you can keep your monthly payments manageable.
  3. Refinance the balloon payment: this option will only apply to people who are set on owning their car. By getting an extension on your contract you’ll be able to pay off any remaining finance owed. But you should think carefully about doing this in case you can get a better deal handing the car back and looking at a lesser=spec model.
 

Nobody wants to be in a situation where they’re in negative equity, so before you take out a PCP finance agreement, look for a good deal in the first place to avoid this. By finding a deal where the difference between the current value and GMFV is as little as possible there’s less risk of the car being worth less than the final payment by the time you get to the end.

 

Need more information on car finance? Head over to our handy guides page for everything you need to know before getting started.

 

Confused trying to switch cars? Add some clarity to car finance with Moneyshake. Our car change calculator will guide you through the best way to switch cars. Simply enter a few details to get started and we’ll do the rest.

 

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