Upside-Down Auto Loans and the Effect of Advertised Loan Terms on Consumer Borrowing Preferences

Abstract

Over the past several years, consumers have become increasingly accepting of longer automobile loan term lengths, which in turn can have a substantial effect on consumers’ cost of borrowing and the potential for consumers to become upside down on their loans (i.e., owe more than what their vehicles are worth). Automobile dealers and financial institutions often promote varying term lengths to attract more buyers. Across four studies, the authors show that consumers’ automobile loan term preferences are influenced by advertised terms because consumers perceive advertised loan terms as an implicit recommendation. Informing consumers of the risks of becoming upside down attenuates the effect of longer advertised terms on consumer loan term preferences. Because consumers who are upside down on their prior vehicle loan and who finance the difference into their new loan are more likely to have their account assigned to repossession, the findings have implications for consumers’ financial well-being, public policy, and marketers of financial products.