Should I refinance my auto loan?

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Should I refinance my auto loan?


Think you're paying too much for your auto loan? There may be something you can do about it. Many lenders offer a quick and easy way to refinance your auto loan so you can spend less time fretting over your finances and more time enjoying your new car.

What is an auto refinance loan used for?

An auto refinance loan is used to pay off the balance on your current loan. Like other secured loans, you typically secure it by putting up collateral--in this case your car--and pay it off in fixed monthly payments over a predetermined period of time.

Why do people refinance their auto loans?

Generally, people refinance to save money, either by securing a lower interest rate, lengthening the term of their loan, or both. Your loan should be cheaper with a lower interest rate, which means you might be able to pay it back more quickly or reduce the size of your monthly payments. While lengthening the term of your loan may also allow you to lower your monthly payments, it will likely end up costing you more in the long run--unless you are able to reduce your interest rate as well.

When is it a good time to consider refinancing?

You might want to consider refinancing if interest rates have gone down or if your credit health has improved. A better credit score indicates to lenders that you're more likely to pay off your loan, so they may give you a lower rate. In fact, the Consumer Financial Protection Bureau advises that your credit score and history can impact your APR by as much as 10 to 15 percentage points. Check your credit report and see if you might qualify for a better offer.

Even if interest rates haven't gone down and you're in a similar financial state as before, it might be worth shopping around for a refinance loan with better terms. You may not have received the best deal on your current auto loan, especially if you got it through your dealer. Dealers will sometimes offer loans at higher interest rates than normal so they can earn some extra cash.

If, for some reason, you can't handle your current monthly payments but don't qualify for a lower interest rate, you may be able to find a loan with a longer repayment period. Or you could try to renegotiate the repayment period on your current loan. Keep in mind that both of these options mean the overall cost of your loan will likely increase since you'll be paying more in interest.

What are some obstacles to refinancing?

While getting approved for an auto refinance loan can be pretty straightforward, there are important factors to consider during the process.

  • Your car. Unlike houses, cars generally depreciate over time. This means that the longer you wait to refinance, the more likely your car's value will be less than what you owe on it. Since an auto refinance loan is typically secured by your car, lenders might be hesitant to offer you a worthwhile deal. Consider refinancing as early as possible, since some lenders won't approve refinance loans for cars that are older than seven years or have more than 75,000 miles on them.
  • Prepayment penalties. Some lenders impose prepayment penalties on borrowers who pay off their loans early. You may have to pay part of your remaining interest in addition to your principal. And if you have a precomputed loan, you may have to pay all of your remaining interest, which could offset any potential savings earned from refinancing.
  • Timing. A quickly depreciating car isn't the only reason to think about refinancing sooner rather than later. Many loan deals are structured so that you pay more of your interest with your first payments. The sooner you refinance and pay off your first loan, the less interest you'll have to pay on it and the more you'll save overall. Furthermore, some lenders will only approve auto loans worth at least $7,500, so consider refinancing your loan earlier so you owe enough to qualify.

Bottom line

Auto refinance loans can be a relatively quick and easy way to save cash if you can find a lower interest rate. If you think you accepted a loan with subpar terms, or if your financial state has improved since you first financed your car, you may want to consider refinancing. Even a decrease in your interest rate of one or two percentage points could translate into hundreds of dollars in savings.

About the author: Drew Jaffe is a Communications Intern at Credit Karma. He currently attends Occidental College in Los Angeles, where you'll most likely find him cooped up in the media suite working on the latest issue of the school newspaper. When he's not working, he's most likely napping, eating burritos or hiking with friends.

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