Car Loan Refinancing Basics
When you refinance a loan, you are essentially replacing one loan with a new one. Ideally, the new loan will offer better terms and a lower interest rate than the old loan. That way, refinancing could improve your financial situation, which is basically the point. You might decide to look into refinancing if your original loan has become a bad fit in some way. For example, perhaps you’ve lost your job and your current interest rate means your payments have become too expensive for you. Or maybe your finances have changed for the better—for example, your credit score may have improved—and you are now more likely to qualify for a cheaper loan. Whatever your reason for refinancing, be aware that you aren’t eliminating your debt. Your original loan balance will remain the same, and you’ll need to use the same collateral to secure the loan—in the case of an auto loan refinance, your car.
Reasons to Refinance Your Car
So, when should you refinance? You may want to consider refinancing your loans when you’re either in a good spot financially or you’ve had some sort of financial setback. For example, lenders look at your credit score when determining your creditworthiness, and that number helps them decide what terms and interest rates they are willing to offer you. If you’ve paid down debt and improved your score since you took out your original loan, you may qualify for a new loan with lower interest rates. But also, if you find yourself in a tough spot financially and need to find space in your budget, refinancing to a lower interest rate may help you save money.In either situation, perhaps the best reason to refinance your car loan is to secure a better interest rate. All else being equal, a lower interest rate will mean that you pay less over the life of your loan. Your interest rate is included as part of your monthly car payments, and if it drops, so too should these payments, potentially making them easier for you to manage.
Is It Bad To Keep Refinancing Your Car?
Theoretically, if you’re careful, you could refinance your car several times without incurring any serious problem. But there are a number of potential issues you should look out for. The older your car is and the longer you’ve had a car loan, the more risk these pitfalls may pose.
You Could End Up Upside-Down
First, as mentioned above, if you refinance to a loan with a longer term—even if you are offered a smaller monthly payment and lower interest rates—you can end up paying more over the life of the loan. What’s more, extending the life of your loan can potentially cause you to go “upside-down” or “underwater,” meaning you owe more on your car than it’s actually worth. In that situation, even if you sell your car, the buyer can’t take over your car loan, so you could still owe your lender money even if you no longer own the car.
You Might Have to Pay Prepayment Penalties
Beware of prepayment penalties. When you refinance you’re essentially paying off one loan and taking on another. However, your first loan may charge you extra if you pay it off early. Before you refinance make sure there are no prepayment penalties, and if there are, make sure they don’t outweigh the benefits you might gain by refinancing. You may also want to ensure that there are no prepayment penalties in your new contract if you think there is any chance you might end up refinancing again.
Does Refinancing Hurt Your Credit?
Refinancing your car loan may temporarily lower your credit score. As you shop for new loans and look for the best rate, each lender you apply to will make a hard inquiry as they pull your credit score. Your credit report keeps track of hard inquiries, which can cause your score to dip for a short period. That said, typically multiple hard inquiries in a short period of time are not cumulative in the effect they have on your score. Accepting a new loan offer may lower your score as well. This may sound counterintuitive, but there’s a reason for it: When borrowers apply for and take on new debt, they’re more likely to miss payments. But with a few months’ worth of on-time payments under their belts, borrowers can expect their credit scores to return to normal or improve.
How Long Should You Wait to Refinance an Auto Loan?
After you take out a car loan, there’s no set length of time that you have to wait before you can refinance. Theoretically, you could do so right away. For example, perhaps the car dealer offers a cash rebate if you finance your purchase through the manufacturer. It might be possible for you to take this deal and then immediately refinance to a lower interest rate with a bank. You might even get a “new car rate.” That said, realistically, you may have to wait at least a month while your dealer and the Division of Motor Vehicles process paperwork relating to the vehicle title and registration. Also, banks may have their own rules about how soon they’re willing to consider refinancing an auto loan. They may require that you hold your old loan for a set period before they will make a new offer. Or if you have poor credit, for example, a lender may be unwilling to offer you a new loan until you establish a track record of paying off your current loan payments on time. And a final note about the timing of potential auto refinances: it may make sense to refinance as early as you can, near the beginning of your loan. If you wait, you may end up extending the number of years you’re paying off your vehicle, which could mean you spend more money even if you can lower your interest rate and monthly payment.
When to Avoid Auto Loan Refinancing
Refinancing does not make sense if you stand to lose money in the deal. How might that happen? New auto loans cost money. States will charge a new title fee, and lenders may charge any number of fees, including origination and processing fees. If the amount you save by refinancing is less than the cost of new fees, the process may not be worth it. But you’ll have to read the fine print and do the math to be sure.It is possible to wait too long to refinance. Interest rates are usually better for newer vehicles, so the older your car gets, the less favorable the loans you may have access to are likely to be. Some lenders won’t even consider vehicles that are over a certain age.
While you can refinance your car loan as many times as you want, there are some factors that may limit how often you should do it. First, consider whether you will actually save money when you refinance. Remember that though you may lower your interest rates and monthly payments, fees associated with a new loan can reduce those benefits. And if you extend the life of your loan, you may end up paying more in the long run. Finally, when you refinance can make a big difference. Doing so toward the end of your loan may actually lead you to a number of pitfalls that can make your auto loan more expensive.If you’re ready to explore refinancing your car loan for the first or second time (or more!), visit Lantern by Sofi. Compare auto loan refinancing rates to find the one that works best for you, so you can lower your rates and free up some cash to put toward other financial goals.The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.