How to refinance a car loan
Do you want to save money on your car loan? Refinancing your car could potentially save you money by lowering your monthly car payment or decreasing the amount of interest you pay. You can then put that money toward savings, home improvements or paying off credit card debt. Find out how to refinance a car and when you may want to consider doing so.
What does it mean to refinance a car?
Refinancing your car means replacing your current auto loan with a new one. The new loan pays off your original loan, and you begin making monthly payments on the new loan. The application process for refinancing doesn't take much time, and many lenders can make determinations quickly. Still, there are things to consider before taking the plunge.
How to refinance a car loan in 5 steps
It may be helpful to do some preparation to determine if you should refinance your car loan. The process may vary slightly according to the lender but knowing the basic steps can help prepare you for what comes next.
1. Decide if refinancing makes sense for you
Refinancing your auto loan could reduce your monthly payment or lower the overall amount you pay in interest. However, this might not be possible if any of the following factors apply to you:
- You're behind on your payments: Any late payments on your existing loan or other credit problems could eliminate the possibility of qualifying for a loan with better terms.
- Your current loan has a prepayment penalty: A prepayment penalty is a fee for paying your loan off early and could cancel out any refinancing savings.
- You owe more than your car is worth: Securing favorable loan terms could prove problematic if the balance on your loan is greater than the value of your vehicle.
- You have an old vehicle: Some lenders won't refinance older or high-mileage vehicles, so it could prove more beneficial long term to upgrade your car.
2. Check your credit
Lenders rely heavily on your credit report and credit score when approving a loan and determining an interest rate. A higher credit score typically translates into lower interest rates. Keep an eye on your credit, as it may have improved over time.
3. Gather relevant documents
Organizing your documents ahead of time can help simplify the application process. Most of the time, you'll need the same items used for securing a loan, including:
- Your driver's license
- Proof of insurance
- Pay stubs or other proof of income
- Your Social Security number
You also need to obtain a copy of your original loan contract. If you can't locate your copy, contact the lender and ask them to email you a copy. A new lender might request details about your existing loan, such as:
- Your remaining balance
- Your current monthly payment
- The amount of time left on your loan
- The interest rate you're paying
- Vehicle information, like the vehicle identification number (VIN)
4. Ask the right questions
Before signing on the dotted line, cover all your bases by asking the right questions and reading the fine print. Talk to lenders and ask, “how does refinancing a car work?” Also, get answers regarding the annual percentage rate (APR), loan duration, and if there are any origination fees or early payoff penalties.
5. Apply or prequalify for financing
If you've found the right deal and are confident about qualifying, you might be ready to jump right in and start the application process. But it can put a hard inquiry on your credit report. If you're unsure where you stand, getting prequalified can give you a better idea without adding an inquiry to your credit report.
When should you consider refinancing your car?
Refinancing a car isn't for everyone and deciding when to refinance can be challenging. The benefits of refinancing might be limited or non-existent in certain instances. For example, if you have a poor payment history on your current loan or are close to paying it off, it may not be to your advantage to refinance.
However, there are times when refinancing your car can benefit you. It may be helpful to refinance your car if any of the following situations apply to you.
Your credit score increased
Your credit score is one of the main factors a lender considers when determining loan approval and credit terms. If you financed your car with a low credit score, refinancing your car could get you a better interest rate or even reduce your monthly payment.
Interest rates have dropped
If you bought your car when interest rates were high, refinancing your vehicle can save you money, possibly more than you realize. An interest rate decrease of only 2% to 3% could save you hundreds if you do not extend the term of your loan. An auto loan calculator can show you how interest rates affect your monthly payment and the total amount you could pay in interest.
You didn’t shop around for rates initially
If you got your original loan from the car dealer, you might have spent too much. Buyers don't always check their credit score or research interest rates before heading to the dealership, and their loan terms may have suffered because of it. If you took the loan offer from the dealership without knowing what options were available, you might not have received the best deal.
Your monthly payment is too high
If your monthly payment is too high, refinancing your car can help. A lower interest rate can decrease your monthly payment, but it may not be enough to make the difference you need. Extending the length of your loan can have a greater impact on reducing your monthly installment. However, a longer term increases the amount of interest you'll pay over the life of the loan.
In summary
Refinancing your car could save you money by lowering your monthly payments or reducing the total interest paid, allowing you to allocate funds to other financial goals. It can be important to consider factors such as your credit score, current interest rates and the condition of your vehicle before deciding to refinance.
