Can You Refinance a Car Loan?

Refinancing refers to paying off a current loan with a new loan. Typically doing so will result in lower monthly rates. Consider refinancing if rates have dropped, your financial situation has improved or if your credit has gotten better. You should avoid refinancing if your current loan is almost paid off, you have an older car, the fees for refinancing are too high and/or you want to keep your current credit score. If you do decide to refinance, make sure you get all your paperwork in order, check your credit score and see if you prequalify for a loan.

Keep reading to see if refinancing is right for you.

What Does it Mean To Refinance a Car Loan?

Refinancing a car loan means you’re getting a new loan that pays off the old one. Loans are paid off through monthly payments over a set amount of time, typically a few years. The loan itself is secured by the vehicle. Refinancing is usually done to save money by getting a more favorable interest rate. This means the monthly payments are lower and your immediate savings are higher. You can also save by getting a loan with a longer term. This will also make your monthly payments low. However, you will pay more money over the life of the loan.

You will need to have several documents put together in order to refinance your loan, including:

A copy of your original loan agreement
Proof of income
Proof of insurance
Your driver's license
Your Social Security number

Once you’ve collected these documents, you can reach out to a lender and see what your options are.

Refinancing is usually done to save money by getting a more favorable interest rate.

How Does Refinancing Work?

The original loan for your car is paid off with a new one. Usually, this means your rates will be lower, thereby saving you money. There will be a new loan agreement and a new term.

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When Can You Refinance Your Car Loan?

Below is a breakdown of what refinancing looks like at various timeframes.

During the first 60 to 90 days of the car loan

Your vehicle tends to take two to three months to transfer from the previous owner or manufacturer to your lender. Your lender will most likely not accept a refinance application until the title has been transferred. You can also pre qualify through multiple lenders to compare rates.
Applying for a car loan will cause the lender to make a hard inquiry into your credit, meaning your credit will drop. If you have excellent credit, this won’t be a problem. Otherwise, it may be wise to wait to refinance your loan.

At least 6 months into the car loan

Allowing six months to pass after you got your initial loan will allow your credit to possibly readjust from dropping after the hard inquiry made by your initial lender. In order to lower your interest rates, you will need to have a good credit score, meaning waiting will probably be the wisest action before refinancing.
Giving yourself more time will allow you to build up a record of on-time payments. This reflects well on your credit, which in turn can lead to lower monthly payments when you decide to refinance. There are lenders who may require at least six months of payments before they will even look at your application for refinancing your car loan.

2 years or more remaining on the car loan

The best benefits will be had when you wait to refinance while there are at least two years remaining on your auto loan. Because most of the interest is paid off at the beginning of the loan, you shouldn’t refinance too late. Otherwise, you could forgo savings.
There will also usually be refinancing requirements later in the life of your loan. These requirements will differ from one lender to another and include how many months are left on your loan, the vehicle's mileage and age.

When Should You Consider Refinancing a Car Loan?

There Has Been a Drop in Interest Rates

Interest rates can change over time, and if you bought your car when rates were high, you will benefit from refinancing when they’re low. Decreasing your rates can save you hundreds of dollars. Find out what the current rates are and find an interest rate calculator online to see if you could be saving by refinancing your loan.

You’re in a Better Financial Position

Having a better income can make it advantageous to refinance. Your loan rates are partially calculated by looking at your debt-to-income ratio (DTI). Your monthly income is divided by your monthly debt payments. According to Wells Fargo, your DTI should be 35% or less in order to be considered good. Pay off any debt that is feasible in order to make sure your DTI is as good as it can be. Doing so will likely give you more favorable rates from a refinance.

The best benefits will be had when you wait to refinance while there are at least two years remaining on your auto loan.

You Didn’t Receive the Best Offer Originally

It’s possible your original rate wasn’t the best you could qualify for, especially if you got your loan through the dealer. Buyers won’t always check the current interest rates or verify their credit score. Because of this, the offer they get from the dealer may not be the best they can do. Always stay up-to-date on your score and rates to make sure you get the best deal, even when refinancing.

The Original Loan Is Above Your Budget

It’s possible your monthly payments may become too much for you to handle, and refinancing could be a good option. You can extend the life of your loan, which will lower your monthly payments. However, you will be spending more in the long run.

When To Avoid Refinancing

The Original Loan Is Mostly Paid Off

It likely won’t make much sense to refinance your car loan if you’ve paid most of it off. Typically your interest payments are front-loaded, which means you’ll pay more of the loan off when you first get your loan. The longer you go without refinancing, the less likely you’ll save money.

You Have an Older Car

The value of your car depreciates fast, usually by 20% after the first year. This means your window for financing could be very limited as many lenders won’t likely refinance loans for older vehicles or high-mileage vehicles. An example would be a vehicle that is 10 years old or has 100,000 or more on the odometer.

The longer you go without refinancing, the less likely you’ll save money.

The Fees Outweigh the Overall Benefits

There are several fees that could pop up when you refinance your loan. They include:

Early Termination Fee - It is not uncommon for lenders to charge you an extra fee for paying off your loan early. Check with your current lender and ask them if they have this fee and how much they charge if they do.
Late Payment Fee - There will be late payment fees if you fail to make on-time payments.
Registration Fee - You may need to re-register your car depending on what state you’re living in.
Title Transfer Fee - There may be an additional fee for transferring title from one lender to another depending on the state you live in.
Transaction Fee - There is usually a processing fee from both your current lender and your new lender when processing your refinancing paperwork. Ask if your lenders are willing to waive this fee as some will.

Maintain Your Credit Score

A refinance could have a negative impact on your credit score. Specifically, your credit will dip when lenders run your credit for the application. The hard inquiries can be particularly harmful if you’ve filed multiple applications.

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How To Refinance a Car Loan

Decide if Refinancing Makes Sense for You

Refinancing should lower your interest rates, causing you to save money each month. It’s possible, however, that this may not be the case if any of the following are true:

You have fallen behind on your payments: Being late on your payments or any other credit-related issues can make qualifying for a more beneficial loan impossible. Be sure you’re up to date on your payments.
There is a prepayment penalty on your loan: Prepayment penalties are fees set up by lenders that charge you extra for paying off a loan partially or fully ahead of schedule. This penalty exists for lenders to collect more interest over time.
The amount you owe is more than the value of your vehicle: You likely won’t be able to get a loan with better terms if your loan balance is greater than what your vehicle is worth.
Your vehicle is older: You usually won’t be able to refinance a vehicle that is older or has high mileage. If this is the case, you may want to upgrade to a new vehicle.

Check Your Credit

Your credit report and credit score are used to determine whether you qualify for a loan and what your rates will be. The higher your credit scores, the lower your rates will be. Between 670 and 739 is considered a good score according to Equifax. Anything higher is either very good or excellent. You can raise your credit score by paying off debt on time and in full and by keeping your credit utilization low, no more than 30% according to Experian. Credit utilization refers to how much credit you have used compared to how much total credit you have available. Your credit score may also increase if you add a credit card, use it and pay it off in full. The overall credit increase will lower your credit utilization. Remember, only take on debt you know you can handle.

Gather Relevant Documents

Gather any pertinent documents that may make the loan process easier. Documents include:

Proof of income
Proof of insurance
Your driver's license
Your Social Security number

You should also get a copy of your original loan agreement. Get hold of your lender if you can’t find the original and they’ll email you a new one. The loan agreement will supply your new lender with the information they may want while processing your new 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 (vehicle identification number (VIN), make, model)

Ask the Right Questions

There are several questions you should ask before you finalize your loan, including:

What Is Your Credit Score? You should know what your credit score is before you sign any paperwork. Your lender will usually tell you what your score is, but be sure to check that your score matches the rate on your car loan. There are several factors that play into the rating, including the types of loans you have, your credit history, your credit utilization, your debt-to-income ratio (DTI) and any late payments you may have. Your score will reflect how well you’ve managed your credit.

How Will Your Credit Score Impact the Terms of Your Loan? The rule is the higher the score, the better your rates on your auto loan. In order to get the best auto loan rate, you will need an excellent score (anything 800 and above). Conversely, a lower score will result in higher rates. You can, however, refinance your auto loan if you’ve improved your credit since buying a vehicle.

What Is the Interest Rate on the Loan? You should ask this question upfront before getting your loan. Also ask the following:

- How often is my interest rate compounded?
- How is the interest on my loan amortized over time?
- Will the interest rate change if I miss a payment?

What Are the Repayment Terms of the Loan? Understand what your repayment terms are and find out if there is an early termination fee. A termination fee lets your lender collect scheduled interest on your current loan. Car loans are also designed in such a way that your initial payments are structured towards interest.

Avoid refinancing if your current loan is mostly paid off, as interest is usually paid upfront.

Apply or Prequalify for Financing

Prequalification means there won’t be a hard inquiry into your credit report, avoiding any dips in your credit score. Hold off on doing anything officially until you have a good idea of how your loan will look and what rates you might get.

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