Thinking about ways to stretch your budget? One option worth exploring is to refinance a car loan. It’s easier than many people think, and it can lead to real savings.
Whether you're dealing with high interest or looking to ease some financial pressure, this guide will help you understand why and when it makes sense to refinance a car loan and how to go about it.
What Does It Mean to Refinance a Car Loan?
When you refinance an auto loan, you’re essentially replacing your current loan with a new one, which might offer better terms based on your current financial situation. Usually, people refinance a car loan to obtain a lower interest rate, reduced monthly payments, or a different loan duration. This is often done through banks, credit unions, or online lenders who pay off your existing loan.
How Auto Loan Refinancing Works
Auto loan refinancing starts with you applying for the new loan, during which the lender will assess your credit, income, and your vehicle's value to determine the loan amount and interest rate for which you qualify.
Upon approval, the new loan will settle your current loan balance, leaving you with a new contract, usually with varying terms, such as a reduced interest rate, an extended repayment period, or both. This can help you reduce your monthly payments and lower your interest rates.
Refinance vs. Loan Modification vs. Trade-In
Refinance:
- Replaces your current loan with a new one from the same or a different lender.
- Aims for better terms, like a lower interest rate or an adjusted payment schedule.
- Involves a new loan application and a credit check.
Loan Modification:
- Adjusts the terms of your existing loan with the same lender.
- May lower payments or extend the term without a new loan.
- Often used if you’re struggling to make payments.
Trade-In:
- Sell or trade your car to a dealership, using the value to pay off the loan.
- Any remaining loan balance must be paid or rolled into a new car loan.
- Best if you want a new vehicle, not just better loan terms.
Why You Might Consider Refinancing Your Auto Loan
Interest Rates Have Dropped
Interest rates always fluctuate, and if they have dropped since you first took your auto loan, refinancing might be a good option to take advantage of the reduced rates.
Even a slight decrease in your interest rate can lead to savings throughout the loan, meaning you might end up paying less in total.
Your Credit Score Has Improved
If your credit score has improved, it's worth considering refinancing car loan rates to see if you qualify for a better deal.
Your credit score can improve if you've consistently paid your bills on time and handled your finances responsibly. A higher credit score makes you a more attractive borrower to lenders, increasing your chances of refinancing at a better rate and saving money.
You Need Lower Monthly Payments
Sometimes your financial circumstances may require more flexibility in your budget. If your monthly vehicle payments feel too burdensome and you're struggling to cover your expenses, refinancing your auto loan might be the solution.
By extending the loan term, you could reduce your monthly payments, making it easier to manage your budget. Just remember that while your monthly car payment may decrease, you can end up paying more in interest over the long run if the loan term is extended.
You Want to Remove a Co-Signer
Refinancing allows you to take complete control of the loan without depending on another person's credit. If you initially took out your loan with a co-signer, like a family member or friend, refinancing allows you to remove them from the loan.
If you have established enough credit and financial stability to qualify for the loan by yourself, removing a co-signer can also ease their responsibility.
The Pros and Cons of Refinancing a Car Loan
Key Benefits
- Lower APR: Securing a lower interest rate can reduce monthly payments and total interest paid.
- Shorter Loan Term: A shorter term can help pay off the loan faster, potentially saving on interest.
- Cash Flow Relief: Lower monthly payments can give your budget some breathing room.
Possible Drawbacks
- Fees: Refinancing may involve upfront costs like application or origination fees.
- Longer Loan Term: Extending the loan term can increase total interest paid over time.
- Higher Total Interest: A lower monthly payment with a longer term may lead to paying more interest overall.
How to Refinance a Car Loan: A Step-by-Step Guide
Step 1 – Check Your Current Loan Terms
Review your current car loan information. Find out your interest rate, monthly payment, how much you still owe, and how long you have left to pay. Check your loan agreement or contact your lender if you’re unsure.
Step 2 – Review Your Credit Score
Your credit score is very important. It influences the interest rate options available to you. A higher score could lead to more favorable loan offers, so it’s good to know where you stand before applying for new loans.
Step 3 – Compare Auto Refinance Lenders
Explore different lenders with the best car refinance rates. Consider options from banks, credit unions, or online lenders. Compare their interest rates, fees, and loan terms. Also, review customer feedback to find a reliable and customer-friendly lender.
Step 4 – Calculate Your Potential Savings
Use an online refinance car loan calculator. Enter your current loan details and the new loan terms you are considering. This will help you determine potential savings on monthly payments, total interest, or if a shorter loan term is worth it.
Step 5 – Submit an Application and Review Offers
Select the lender with the best offer and apply. You will need to provide information regarding your income, vehicle details, and existing loan balance.
Once you receive offers, compare them carefully. Check the interest rates, fees, and monthly payments to choose the one that best fits your needs.
When Is the Right Time to Refinance?
Best Situations for Refinancing
- Your Credit Score Improved
- Interest Rates Dropped
- You Need Lower Payments
- You Want to Pay Off Faster
When You Should Hold Off
- High Refinancing Fees
- You’re Close to Paying Off
- Your Car’s Value Is Low
- Your Credit Score Dropped
Can You Refinance a Car Loan with Bad Credit?
If you don’t have a good credit score, you may worry about your chances of refinancing a car loan. Luckily, there are some lenders out there, such as Carvana and AUTOPAY, that offer options to refinance a car loan with bad credit.
Although car refinance rates may not be higher compared to those available to borrowers with better credit scores, refinancing can still help you lower your interest rates and reduce your monthly payments.
Before making any decisions, it’s a good idea to use a car loan calculator to estimate your potential monthly payments, total interest, and long-term savings.
Common Mistakes to Avoid When Refinancing
Extending the Loan Too Long
This can save you money short-term, but may lead to paying more in interest overall and could leave you owing more than the car is worth.
Ignoring the Fine Print
Missing hidden fees, prepayment penalties, or terms that don’t match your expectations could turn into a costly mistake.
Not Comparing Enough Offers
Picking the first lender you find might mean missing out on better rates or terms. It's wise to explore options and request quotes from at least three lenders, including banks, credit unions, and online alternatives. Evaluating different offers allows you to find the one that saves you the most money while meeting your needs.
Best Car Loan Refinance Companies
- LendingClub: Offers the lowest minimum APR among non-military lenders, ideal for borrowers with good credit.
- Bank of America: High overall score for accessibility and reasonable terms, with no prepayment penalties.
- Navy Federal Credit Union: Competitive rates and high customer satisfaction.
- PenFed Credit Union: No document or origination fees, with competitive APRs.
- Auto Approve: Offers competitive APRs. Matches borrowers directly with lenders and handles DMV paperwork for refinancing.
Is Refinancing the Right Move for You?
Refinancing provides financial flexibility by allowing you to choose loan terms that fit your budget and needs. With vehicle equity on your side, refinancing can help you lower your interest rate, shorten the loan term, or even get cash out for other financial needs. However, it’s important to have a clear understanding of your payoff amount to ensure that refinancing saves you money in the long term.