When most people buy a car, they take out an auto loan to pay for it. Auto loans will typically have an interest rate that’s charged to the loan amount each month. So, it’s smart to look for the best interest rate you can get.
However, interest rates change over time. What was considered a reasonable interest rate when you bought your car may not be so good right now. This is why many people refinance their car loan — to get a lower interest rate, save money each month, and potentially pay off the loan sooner.
When you consider the pros and cons of refinancing a car loan, you’re looking at whether replacing your current car loan with a new one makes sense for your situation. Many people wonder if refinancing a car is worth it, and the answer depends on your personal needs and goals.
- Pros of refinancing a car loan
- Cons of refinancing a car loan
- Is refinancing a car loan worth it?
- When to refinance your car loan
- When to avoid refinancing your car loan
- Tips for refinancing a car loan
- Refinance your car loan the right way
Pros of refinancing a car loan
Refinancing your car loan might be beneficial if your timing is right. The main advantages come from better loan terms that match your current needs and financial situation.
Less interest
One key benefit of refinancing a car loan is securing a lower interest rate. Interest rates change occasionally, and the chance to get a much lower interest rate may be too good to pass up. However, it’s best to avoid refinancing your loans multiple times since it can hurt your credit score.
Keep in mind that you’ll likely only qualify for these lower rates if your monthly payments are made on time and you have a good enough credit score. Your chances of getting a better interest rate improve when your credit score has gone up since you took out your first loan.
Meanwhile, making on-time payments for a year or more shows lenders you’re reliable, which can lead to better offers. If your credit utilization has improved, this also helps your chances of qualifying for lower rates.
Lower monthly payments
Thanks to a lower interest rate, your monthly car payments may become more affordable. When refinancing, you can also extend the term of your loan. By stretching out the loan term, your monthly payment will be even less.
For many families, having lower monthly payments can make a huge difference in their financial budget. The extra money saved each month can go toward essentials and savings.
Pay off your loan earlier
Most auto loan terms are three to five years. During that time, your financial situation may improve. If that’s the case, you could refinance your car loan for a shorter period – and a lower interest rate. This can help you pay off the loan much more quickly.
It’s true that you could just pay extra each month on your existing loan without refinancing it. But by refinancing, you’ll likely save more money since you may also be able to get a lower interest rate.
Cons of refinancing a car loan
While refinancing a car has many benefits, it’s not always the right choice for everyone. Understanding the potential cons will help you make a smarter decision.
Additional fees
It’s always wise to read the fine print or discuss any fees you may be charged if you refinance your auto loan. Application and origination fees are the most common, so look out for those and compare lenders. Some lenders and credit unions may also charge you a “prepayment penalty” for paying off your loan earlier than expected. Lenders charge this fee to recover what they would lose in interest payments.
These fees can add up fast, so make sure you know what you’re paying for when you refinance your car loan.
Interest amount could rise
Yes, you can refinance your auto loan for a lower interest rate. However, if you refinance for a longer loan term, the actual interest you pay on the loan might be more because the loan has a longer term. In other words, the interest rate may be lower, but you could still pay more overall because of the extra months added to the loan.
If you refinance at a lower interest rate, keep the loan terms the same as or shorter than your current loan. Doing so can help you get a better interest rate without adding extra monthly payments.
Potential of being upside-down on the loan
When you owe more on your car loan than the vehicle is worth, the auto loan is considered “upside-down.” For example, say your vehicle is worth $15,000 but your loan balance is $18,000. That means the loan is upside-down.
Before you decide to refinance your car loan, make sure you don’t owe more than the car is worth.
Is refinancing a car loan worth it?
So, is refinancing a car a good idea? There are many factors to consider when weighing the pros and cons of auto refinancing . This includes:
- Interest rate changes: If interest rates have dropped since you got your loan, you might save hundreds or even thousands of dollars when you refinance.
- Credit score: Your credit score may have gotten better since you first took out your car loan. Lenders give their best rates to borrowers with good credit scores, so an improved score could help you get better terms.
- Monthly payment needs: Refinancing with a longer term might make sense if your budget is tight and you need to lower your expenses. This helps with month-to-month cash flow, even though you’ll pay more in interest over time.
When to refinance your car loan
Timing matters when refinancing a car loan. Here are some situations when refinancing might make sense:
- Lower interest rates: When interest rates fall lower than your current rate, refinancing can lead to big savings.
- Increased credit score: If your credit score has gone up since getting your auto loan, you might qualify for much better rates.
- You need lower payments: Refinancing with a longer term can give you more breathing room in your monthly budget.
- Remove a cosigner: Refinancing lets you put a loan just in your name if you originally needed someone to co-sign.
When to avoid refinancing your car loan
Refinancing isn’t always the right move. Here are times when you should probably stick with your current car loan:
- Your car loan has prepayment penalties: Some lenders charge hefty fees if you pay them off early through refinancing. These fees cancel out any savings you might get from refinancing.
- You’re almost all paid off: If you’ve already paid most of the interest and are mainly paying principal now, refinancing starts the process over. Most car loans front-load interest, so refinancing late in the loan term rarely makes financial sense.
- Your car is old or has high mileage: Most lenders have restrictions on car age and mileage for refinancing.
- Your loan is upside down: Refinancing can be difficult and might not offer better terms if you owe more than your car is worth.
Tips for refinancing a car loan
If you decide that refinancing makes sense for your situation, these tips can help you get the best deal:
- Check your credit first: Know your current credit score before shopping around. This helps you understand what rates you might qualify for.
- Shop around: Don’t just take the first offer. Check with several lenders to find the best rates.
- Watch for fees: Ask about all potential fees upfront, including application fees, origination fees, and prepayment penalties.
- Avoid extending your loan too much: Longer terms come with lower monthly payments, but they also mean paying more interest over time.
- Get pre-approved: Getting pre-approved before visiting dealerships gives you a clear budget.
- Consider timing: Refinance when interest rates are generally low and your credit is in good shape.
If you’re struggling with bad credit, consider improving it before refinancing or exploring alternative options to buy or lease a car with bad credit.
Refinance your car loan the right way
When looking at the pros and cons of refinancing a car, the right choice comes down to your personal situation. If interest rates have gone down, your credit has improved, or you need more affordable monthly payments, refinancing could save you money and reduce financial stress. Just be careful about overextending your loan term, and watch out for fees that might affect your savings.
If refinancing isn’t the right option, Sun Loan is here to help you uncover other ways to manage your finances. Our personal loans might be a better fit for your needs, especially if you’re looking to consolidate debt or need extra funds while managing your car payments. We’re committed to helping you find financial solutions that work for your unique situation.
