The pros and cons of refinancing your auto loan
Factors to consider in auto-loan refinancing
- Refinancing your auto loan can lower your interest rate and monthly payments.
- Refinancing may save you money if your credit has improved or rates are lower.
- If you are upside down on your loan or have an older vehicle, refinancing is not ideal.
Many consumers take the first loan package they are offered at the auto dealership. While convenient at the time, you may regret the conditions of your auto loan once you’re on the payment path.
Refinancing your vehicle loan is one way to potentially reduce your interest rate and monthly payments, saving money in the long term.
An auto-loan refinance involves taking out a new secured loan to pay off the existing one, transferring the title to the new lender. Ideally, the new loan conditions will be improved, but refinancing is not always the right choice.
Should you refinance?
Following are some examples of when refinancing your auto loan might be a prudent move.
Your personal credit improved
If your credit score improved by 50 points or more since you obtained the initial auto loan, you could be eligible for lower interest rates based on your creditworthiness.
You initially took out an unfavorable loan
On average, dealerships markup auto loans by 2.5 percentage points from the bank’s proposed interest rate, pocketing the difference. If you think the rates and conditions of your current loan are too high, you could obtain lower rates by comparing refinance lenders.
Interest rates have decreased
If interest rates have fallen since you took out your auto loan, refinancing could help bring your rates down in line with the benchmark rate.
You are early into your loan term
Auto loans are designed so that more interest is paid earlier in the term, so the newer the loan the more you can potentially save through refinancing. Additionally, older cars have a lower retail value and are thus less attractive to lenders to hold as collateral.
Are you eligible?
You can refinance your auto loan immediately, even before your first monthly payment. However, the age, miles and equity you have in your car will determine eligibility. Most lenders will require that your car is no more than 10 years old and that it has no more than 125,000 miles on the odometer.
Different lenders also have different minimum and maximum car-value requirements, typically in the range of $5,000 to $40,000 depending on the vehicle. If your car is upside down — that is, you owe more than the retail value of the vehicle — you may be ineligible for a refinance or have to pay off the difference in cash before taking out the second loan. Ask your lender for their qualification requirements.
Having poor credit does not disqualify you from refinancing your auto loan; however, you may not be able to lower your interest rate as much as someone with stronger credit.
What are the pros and cons?
Cost savings from lower interest rates and monthly payments are the primary benefit of refinancing your car loan. It also is usually very easy to refinance an auto loan and approval can be obtained in as little as a few minutes.
Refinancing into a loan with an extended repayment term, however, may cost more in the long run, even with lower monthly payments. Consider the age of the vehicle and whether you are keen to keep the car long term.
While most lenders offering auto-loan refinancing do not charge fees, your original lender might charge prepayment fees, particularly if the initial loan was pre-computed with a fixed total interest amount due before payments are applied to principal. Depending on your state, there also may be title-transfer, re-registration or lienholder fees and taxes to be paid.
Refinance or trade in?
Refinancing is not always the best option to manage high monthly payments. If you have an older vehicle that is not attractive to lenders for refinancing, or your credit has not improved significantly since you took out the initial loan, trading in your car for a more affordable model may be a wiser move.
In either case, it is worth comparing lenders to see what refinance options are available to you.