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What to do if you’re falling behind on a car loan

By Craig Guillot

Falling-behind-on-car-note-740Americans with low credit scores are falling behind on car loans at a rapid pace.

Fitch Ratings reported in March the number of subprime auto borrowers whose payments were more than 60 days late reached 5.16 percent — the highest rate in 20 years.

As more people are defaulting, the average car loan is increasing, too. According to Experian Automotive, the average new-car loan in the U.S. reached an all-time high of $29,551 at the end of 2015, and the average monthly payment was near $500.

If you’re falling behind or struggling to make your car payments, acting fast can help you save money, avoid hassle and maybe let you keep your car, too.

Contact your lender

Automotive expert Lauren Fix, also known as The Car Coach, says calling your lender is the first thing to do because “no financial institution wants you to default.” Repossession is often the least profitable option for a lender, she says. The lender has to cover the cost to repossess the car and then sell it at auction for less than market value.

“They would rather have you call than to not pay and totally ignore them,” says Fix.

Lenders have their own guidelines and regulations, but consumers may avoid repossession “if they’re acting in good faith,” says Steven Raj, vice president of Park State Bank in Duluth, Minnesota. “There are options. Full communication between the borrower and the lender is the first step.”

Options your lender can offer

One common option for people behind on car payments is a loan extension, Raj says. The lender can waive a few payments and then add them onto the back of the loan. The loan will still accrue interest, but a few months without payments can allow the borrower to catch up during a temporary financial strain. Lenders can also move the payment due date or offer refinancing.

Refinance

David Weliver, millennial financial expert and founder of MoneyUnder30.com, says you could refinance if you have good credit and haven’t fallen too far behind on payments. “Refinancing could make sense if the car is only a few years old, your existing loan has a high interest rate and your credit has improved since you bought the car,” says Weliver.

Landing a lower interest rate and extending the terms can significantly reduce your monthly payments.

Example: You’re in the third year of a five-year, $15,000 loan. Your interest rate is a steep 11 percent, and your payments are $326.14 per month. Refinancing that same balance for another five years at 3 percent (if you have good credit) would bring the payments down to $269.53 per month.

However, extending the loan means paying more interest over the long term. Fix says consumers should carefully read the terms of any refinance agreement. Do the math to see if you’d save money. But even if you’re not, refinancing could still benefit you by enabling you to make your payments.

Sell the vehicle

You could sell your car, use the proceeds to pay off the loan and buy a cheaper vehicle. Some lenders can also arrange for a new buyer to take over the payments on a loan, assuming the buyer qualifies.

“If you have a (car) that no longer works within your budget, then selling the vehicle for one that does is the best route,” says Raj.

Nick Clements, co-founder of MagnifyMoney.com, says it depends on how much equity the person has. Most dealers will allow a buyer to trade in a vehicle with an outstanding loan, but it can be tricky when they’re “upside down.” For example, if a consumer has a vehicle worth $15,000 but owes $18,000 on it, he’ll still have to pay off that $3,000 before trading in the car.

Turn in the keys

Also known as voluntary repossession, this option involves turning over the vehicle to the lender. It could be a solution if you have no equity or no feasible way to keep the car. In some states, however, Weliver says you still must pay the difference between what you owe and what the car sells for at an auction, plus fees.

This decision will heavily impact your credit score, and your credit report will still reflect any balance due. A voluntary repossession should be seen as a last resort.