Car ownership is now more expensive than before due to inflation, interest rate hikes, and supply chain issues after the Covid-19 pandemic. Next to a house, buying a new car is the second largest purchase you’ll ever make, making financing a necessity.

Americans owe $1.6 trillion in car debt, and if you’re finding it challenging to keep up with the payments each month, try some of the solutions we discuss in this guide.

What Is Car Debt?

When you borrow money from a lender to purchase a car, the amount you borrow is car debt. You’ll have to repay the car loan, with interest, usually in fixed installments over a set period of time called the loan’s term. 

The lender will determine the amount you can borrow and over what length of time based on your ability to meet their criteria in terms of credit scores, income, and other factors, including the vehicle’s value and age.

In Q3 2023, Americans took out, on average, $59.8 billion in new car loans each month. Borrowers younger than 50 borrowed $36.6 billion each month during this period.

The average car loan payment for a new car in Q3 2023 was $726 per month, while average lease payments on a late-model automobile were $597 a month. Monthly payments for used cars remained the lowest at $533. Borrowers with subprime and fair credit score range saw the highest average monthly car payments for new cars at $769.

Why Americans Are Struggling With Car Debt

One of the main reasons why car debt is currently so high is that the prices for vehicles of all ages, makes, and models have increased significantly in recent years, making it necessary for borrowers to take out bigger loans for longer terms. In September 2023, the average price for new cars was $47,899, up from $37,590 in September 2019.  This is a price difference of more than $10,000 (or +27.4%) in just four years! 

Soaring interest rates have also made car financing more expensive for borrowers. With the debt burden so high and car prices rising at more than 3-4 times the increase in personal income, delinquency rates have also been rising. In Q3 2023, 7.4% of auto loans were 30 days past due, while 3.9% of loans were over 90 days late.

Car Debt vs. Other Types of Debt

Car debt is a type of secured debt, like a mortgage. This means that the vehicle you purchase acts as collateral for repayment of the loan. If a borrower defaults and doesn’t pay off the loan as agreed, the lender can repossess the car and sell it in the open market to recoup the funds lent.  

However, if you make all your payments on time, as stated in your loan agreement, you’ll get complete ownership of the car, free and clear, once you pay off the loan.

If you fail to repay the loan, the lender can repossess your car and sell it on the open market to recoup the money lent to buy the car.  A recent repossession on your credit report can and will damage your credit score significantly. 

You’ll have to do some significant work to fix your credit after a car repossession, which can take time.  Until then, it will be very hard to get approved for a new car loan with any kind of favorable terms.

Personal loans and credit card debt are unsecured, which means that they don’t have collateral. Unlike a car loan, you may not face repossession if you fail to repay unsecured debt. However, delinquency on unsecured debt can still lower your credit score in the same way and make it more difficult for you to secure credit in the future.

You might also use a credit card to buy a car. It's important to take into account the dealership's policies, your credit limit, and any additional fees you might encounter.

“A secured debt, such as a mortgage or an auto loan, is often helpful to a credit profile and score, assuming that payments are up to date,” says Brad Reichert, founder and managing director of Reichert Asset Management LLC. “This is because an overwhelming majority of Americans own a vehicle they drive to work or school or simply for general travel. Therefore, automobile and mortgage debt are essentially considered “necessary debts” that most people will have to take on at some point in their lives,” Reichert adds. 

Types of Car Loans

Car loans come in a few different varieties, and the type of loan that is best suited for you will depend on your credit score, the type of car you want, and the loan amount you need.

Traditional Loans

You can get a car loan at almost any credit union, traditional bank, or online lender. These lenders have their own underwriting criteria and may have minimum credit score requirements. It may also take more time to get a loan approval directly from these lenders compared to arranging financing with one of these lenders through the dealership you’re buying the vehicle from.

Lease Agreements

You may also want to learn more about how leasing a car works if you don’t want to purchase a car right now. When you lease a car, you’ll have monthly payments for a fixed period of time. However, you won’t own the car at the end of your payment term, you’ll have to turn it back into the dealership, ideally in good to excellent condition.  

A lease is like a long-term rental agreement, during which you pay primarily for the use and depreciation of the car throughout the (typically 24-36 month) lease period over which you choose to drive the car.

Your car lease will specify if you can extend your lease for an additional 6-18 months or purchase the car for a predetermined price at the end of the lease term.

Balloon Payments

Some lenders may offer you a balloon payment option with your loan. With a balloon payment, your repayment schedule will consist of a series of smaller monthly payments. Then, the final payment will be a large lump-sum amount, which is often half of the car’s value.

While this option will reduce your initial monthly payments, it’s also riskier if you don’t have a clear plan for how you’ll come up with the large balloon payment at the end of the loan term.

Why Managing Car Debt Is Important

While taking out a car loan may be unavoidable for many who need reliable transportation, it’s just as important to manage your debt well. When car debt gets out of hand and becomes unaffordable, you may find it challenging to keep up with payments.

Missing payments or paying late can result in negative marks on your credit report, which can reduce your credit score. You’ll also accumulate penalties, late payment fees, and additional interest charges, which can increase the amount you owe, making it more difficult to get out of debt.

9 Solutions To Pay Your Car Debt

If you’re finding it difficult to pay off your car debt, there are many things you can do to alleviate the financial burden. Here are some of the options you can try, depending on your situation.

1. Create a Budget

Start by making a budget to see where you currently stand. Include all your monthly expenses, regardless of how small, to get a true picture of how much you spend on everything each month. Understanding how a car loan works can also help you budget effectively, giving you an idea of whether your income is sufficient to cover all your expenses, while still allowing you the flexibility to put some money aside for savings.

2. Increase Your Income

If you find that your income is less than your current expenses, one way to remediate that is by finding ways to increase your income to accelerate car debt repayment. Take on a side job, try freelancing in your free hours, or see if you can get overtime hours at work.

Use the extra money to make extra payments on your car loan so you can pay it off faster and save money on interest charges.

3. Reduce Your Expenses

Take a close look at your budget to see if there are any areas where you can reduce your expenses to free up more money. Negotiate to lower your phone, internet, or insurance bills. Cancel any memberships you don’t use regularly and see if you can cut some of your discretionary spending, such as dining out and shopping.

4. Prioritize Debt Repayment

If you have more than one car loan or have debts from multiple sources, such as personal loans, auto loans, credit cards, and student loans, use debt repayment strategies to prioritize them.

Use the debt snowball strategy to pay off the smallest of your debt balances first and then shift your focus to the next smallest debt, and so on.  This process will allow you to build momentum and confidence in your plan as you see your initial 1-2 balances paid off in short order. This will make the larger balances seem less of a mountain-sized challenge to pay off as you go along.

If you want to save the most money, use the debt avalanche method. With this repayment strategy, you prioritize paying off your most expensive debt first before moving on to the next one.  

This makes sense because the higher the Annual Percentage Rate (APR) on your debt, the more interest dollars you’ll have to pay on each dollar of principal each year, all else equal. By putting extra payments toward these debts first, you’re saving as much in interest costs as possible right from the beginning.

Both these repayment methods will help you accelerate debt repayment, whether you’re dealing with car loans or any other type of debt.

5. Consider Debt Consolidation

If you have two or more auto loans, consider consolidating them with a new loan so you only have one monthly payment. This may also allow you to save money if you can get a lower interest rate on at least one of your current automobile loans.

While there isn’t such a thing as a dedicated auto consolidation loan per se, you can use personal loans or home equity loans to make it happen. Carefully consider your options and make sure you’re getting an interest rate that’s low enough to make this option worthwhile.

6. Research Debt Management Programs

Debt management programs offered by nonprofit credit counseling agencies can help you get a handle on your debt and develop a solid plan to pay it down. While you can’t enroll in secured debts, such as car loans, in a debt management program, you can reduce your debt load by enrolling in unsecured debts. This may streamline your budget, free up some extra cash each month, and make it easier to pay off your car loan.

7. Get a Debt Settlement

Debt settlement is a process through which you can negotiate with your lenders to settle your account for less than you owe. It’s important to note that debt settlements are only available for unsecured debts, such as credit cards and personal loans.

However, with your unsecured debt payments out of the way, that’ll free up more money each month so you can concentrate on paying off your loan balance.

8. Refinance Your Car Loan

When you refinance your car loan, you’re replacing your current loan with a new one. Refinancing may help you get a lower interest rate or a longer term to reduce your payments. You’ll need a good credit score to qualify for a loan on better terms than what you currently have.  All else equal, this usually requires a credit score and credit profile that is better than what it was when you took out your original car loan.

Consider getting pre-qualified to see what rate you qualify for to decide if it’s worth it. Pre-qualification only involves a “soft credit check,” so it won’t damage your credit score just to get an idea of where you might stand right now.

9. Negotiate Lower Interest Rates

Whether you’re applying for a first-time buyer car loan or refinancing your existing loan, it’s always a good idea to negotiate with the dealer or financial institution to reduce your interest rate. Consider getting pre-qualified with multiple lenders, so you’ll be better equipped to negotiate.

The stronger your credit history, the better your chances will be when negotiating a better deal. Check your credit score before you start shopping for a new vehicle to see what you may qualify for.  

Getting Out of Car Debt is Possible

While the rising car prices and higher interest rates in America may make it difficult for you to repay car debt, we want you to know that it’s certainly possible. Consider the options we’ve discussed in this guide to see which one(s) may work for you.

The best way to avoid taking on a lot of auto loan debt is by doing your homework before you buy the car. Consider saving up a larger down payment, compare your loan offers carefully, and make a budget to ensure you’ll be able to repay the loan comfortably once you sign the loan agreement. We also recommend using an auto loan calculator when you start your car-buying process.