Can you trade in a financed vehicle?

Imagine you still owe $15,000 on your vehicle, and you’re looking at upgrading to a new one. Can you trade in what you owe for something better? The short answer is yes, but there are some drawbacks you’ll want to consider. Trading in a car that’s financed requires careful planning, especially because you’re dealing with loans, potential negative equity, and insurance implications.

But you’re not alone. In Canada, about 51% of new vehicle transactions and 53% of used vehicle sales involve a car loan. If you plan on buying a new or used car but already have a vehicle, the process works differently depending on whether your vehicle is financed or if you own it outright, with the former being a bit more complicated. This guide will walk you through everything you need to know, from calculating your loan balance, assessing trade-in values, understanding positive and negative equity, and determining when trade-ins may not be the best choice.

Why trading in a financed car is different

When trading in a car you’ve fully paid off, the process is relatively simple: you sell the car or trade it in, and the money you make goes toward your next car. Trading in a financed car works differently because you still need to consider your car loan. The amount you still owe on your vehicle will directly impact your ability to trade it in, whether you have positive equity or have slipped into negative equity territory.

If you still have outstanding debts, you will need to compare the car’s trade-in value with the remaining loan amount. If the vehicle’s trade-in value is higher than the remaining loan amount, then the process will be relatively straightforward. The remainder of the loan will be put toward purchasing the new car.

However, if the car’s trade-in value is not enough to cover the outstanding loan, then the process is known as negative equity, and it is more complicated. In Canada, financing a vehicle is quite common, with long-term loans ranging between 72 and 84 months. Unfortunately, approximately 20% of trade-in vehicles have negative equity, meaning many Canadians roll part of their old loan into their new car loan.

Insurance implications

Insurance is another thing you need to consider. Trading in a car often means you’ll need to update your current policies to include collision, comprehensive, and liability coverage. Depending on the type of vehicle you trade in for and its value, these factors can impact your insurance premiums.

Speak with a BrokerLink broker before completing your trade-in. We can help you evaluate your coverage options, like gap insurance, to ensure you’re financially protected.

Step 1: Calculate your remaining loan balance

The first step to trading in a car that isn’t paid off is to calculate your remaining loan amount. For some people, this calculation could be as simple as adding up the remaining payments due for the loan term. However, the calculation may be more complex for others, including additional fees like early repayment penalties or interest. If you’re having trouble determining your remaining car loan amount, use an auto loan calculator, like those from Scotiabank or [TD Bank](Vehicle Loan Calculator TD Bank https://www.td.com › products › borrowing › car-loan-…).

You may also want to request a 10-day payoff quote from your lender, which reflects any daily interest and early repayment penalties. This tells you the exact amount you still owe on your auto loan, so you know how much of your trade-in value will go toward paying off the remaining loan balance before it’s applied to your new vehicle.

Example

For example, if your outstanding loan balance is $15,000 with an interest rate of 7.21%, the total payoff amount may be a bit higher than adding up your remaining monthly payments, because the interest has accumulated over time. So, by knowing this exact number ahead of time, you can compare it to your car’s trade-in value and decide whether you want to move ahead, pay part of your loan off first, or consider other options.

Step 2: Determine your vehicle’s trade-in value

Step number two is to determine the trade-in value of your car. It’s best to do some independent research into your car’s trade-in value rather than simply taking the dealer’s word at face value. To estimate your car’s trade-in value, you will need to consider several factors. These factors include:

• Your car’s age.

• Make, model, and condition.

• Market demand.

Use Canadian resources like Kelly Blue Book Canada and Canadian Black Book. What your dealer offers will often be lower than what a private buyer can get, so knowing the current market can come in handy and help you avoid getting less than what your car is worth.

Keep in mind that a car’s market value diminishes quickly. According to the Government of Canada, a vehicle value drops between 15 to 25% in the first four years, which can contribute to negative equity, especially if your car is relatively newer when you’re considering a trade-in. By being realistic about what your car is worth, you can then decide whether you want to roll over your negative equity, pay off your old car loan first, or sell to a private buyer to maximize value instead.

Step 3: Understand equity position (positive equity vs. negative equity)

The next step to trading in your financed car is understanding what auto loan equity is. Take a look:

Positive equity

When your car is worth more than the outstanding amount on your auto loan. For example, if a dealer tells you that your car is worth $20,000 and your current loan balance is only $5,000, then you will have $15,000 in positive equity. This makes the trade-in process a lot easier.

Negative equity

In Canada, 28% of people have vehicle-loan or lease debt, making negative equity common. In fact, about 20% of trade-ins carry negative equity, according to Canadian Auto Dealer.

Negative equity occurs when the loan value is higher than the estimated trade-in value of a car. Negative equity loans may also be referred to as upside-down loans. Negative equity loans put borrowers further into debt because the difference between what they still owe and the value of their car is added to the purchase price of the car they want to buy.

A new loan is then issued for this higher amount, which translates to higher monthly auto loan payments for the borrower. It’s up to you to decide whether you want to move ahead and trade in a financed car with negative equity.

Step 4: Consider insurance implications

If you decide to go through with the trade-in, make sure that you update your existing car insurance plan so that your new vehicle is covered. There is a grace period in Alberta and other provinces, but it’s still a wise choice to let your insurance company know about the vehicle change as soon as possible.

Remember that trading in a financed car can affect your coverage and premiums. For example, a higher-value vehicle will require greater collision and comprehensive limits, compared to a less expensive vehicle, which may allow you to reduce your coverage amounts. Keep in mind that if you trade in a financed car with negative equity, your down payment amount is reduced, which may make insurers view you as a higher risk, increasing your premiums.

Pro tip: Speak with BrokerLink about updating your current coverage to fit the needs of your new vehicle. They can explain gap insurance, help you qualify for discounts, and ensure you aren’t left exposed to risks on and off the road.

Step 5: Prepare documentation and financing

If you have a negative equity loan but decide that you want to proceed with the trade-in, then it’s time to prepare the necessary documents. Since a vehicle trade-in and a new auto loan are both legal transactions, you must provide a range of documents, including:

• Car registration documents

• Personal identification (valid driver’s licence)

• Proof of income (bank statements, notice of assessment, pay stub).

• Proof of residency if you’re not a Canadian citizen.

Your dealership will typically coordinate your old loan payoff amount and apply your trade-in credit to your new vehicle purchase. Keep in mind that trading in a car may also come with extra costs. Some lenders may charge you an early payoff fee if you pay off your loan sooner than scheduled. In certain provinces, the trade-in value can actually reduce the taxable amount of your new car, which can affect the final purchase price.

Remember: Read your new loan agreement

Remember that you should always carefully read any legally binding contract before signing. If you are confused by the legal jargon and terminology, have an attorney review the contract for you. Generally speaking, you should be wary of any dealership that promises to pay off the negative equity on your old car. If it sounds too good to be true, it probably is. Plus, it’s nearly impossible to get out of paying the debt that you owe, even by trading in a vehicle. Before you sign, double-check the following:

• All numbers match what you discussed (trade-in value, payoff amount, and new loan amount).

• Negative equity is clearly stated.

• Any “we will cover your negative equity” promises are realistic and documented.

Remember, you should never feel pressure to sign. You can always shop around for better rates or consider paying down part of the old loan balance beforehand.

When trading in a car doesn’t make sense: Your other options

If you significantly owe money on your car loan, that’s what it’s currently worth, meaning you have high negative equity. Trading it can increase your debt and monthly payments. In this case, you may want to consider other options:

1. Keep your current vehicle until you reduce the loan balance enough to reach positive equity.

2. Pay off your loan faster with extra payments or a lump sum.

3. Selling privately can help you get a better price than what is offered by a car dealership.

4. Wait to trade in your financed vehicle until your loan is closer to being paid off.

Long-term loans, especially those with 84-month financing, increase your risk of negative equity because vehicles depreciate faster than your loan amount is paid off. According to Canada Drives, loans ranging between 72 and 84 months are likely to leave borrowers underwater compared to 60-month payment terms.

Trade in vs. keep analysis

You should familiarize yourself with the following:

• Extra interest rate costs: Rolling negative equity into a new purchase loan increases your total interest paid over the loan term.

• Higher monthly payments: Financing a larger loan directly increases your monthly payments.

• Insurance changes: If you’re trading in your car for a more expensive vehicle, your premiums will increase.

Hypothetical example

Before getting a new car by trading in your vehicle, let’s look at a hypothetical example below:

Let’s say you have a remaining balance on your existing loan of $20,000, but your trade-in value is only $14,000. This leaves you with $6,000 in negative equity.

You want to buy a new car that’s priced at $35,000. If you were to roll the equity into your new loan, your financed car loan becomes $41,000 ($6,000 + $35,000). If you’re locked into a loan term of 84 months at an average Canadian interest rate of 6.90%, your monthly payments could increase by hundreds of dollars compared to financing a car with positive equity. Over the full loan term, your total interest can grow substantially, meaning you could be paying double what the original purchase price of the vehicle is once everything is said and done.

Decision table (positive or negative equity)

Here's what you should consider before making a decision:

Contact BrokerLink today

The trade-in process for a financed vehicle is possible, but it does require some careful planning. Always pay attention to what you owe, your financed vehicle trade-in value, and any negative equity that may apply to your new vehicle loan. This information can help you make a better-informed decision moving forward.

And remember, with a new vehicle, you’ll need to ensure your insurance reflects your upgraded ride. Speak with BrokerLink today about the coverage options available to you to ensure you’re protected on and off the road.

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FAQs on trading in financed cars

Can I trade in a car I still owe money on?

Yes, but if your loan balance is higher than your car’s value, you’ll have negative equity, which you can roll into your new loan. Note this increases your debt and monthly payments.

If I trade in with negative equity, will my insurance go up?

Possibly. Financing a larger loan or purchasing a higher-value vehicle can increase your rates.

What’s the average monthly payment for a car in Canada?

The average monthly payment for a new car in Canada ranges between $450 and $800.

How much does negative equity cost the average Canadian trade-in?

Clutch.ca estimates that negative equity costs the average Canadian $7,700 when trading in their financed vehicle.

If you have any questions, contact one of our local branches.