Should You Ever Refinance Your Car Loan?

Borrowing for a car may seem like a questionable financial decision, but there are certainly scenarios where car loans can help you get ahead. For example, new vehicles often come with 0% APR finance offers, and people with great credit often pay low interest rates that are comparable to mortgage rates. Not only that, but borrowing for a car may be the only way you can line up transportation to and from work.

So what is the problem? Overall, Americans have become accustomed to using auto loans to finance more than they can reasonably afford. We know this because not only does the average car loan size keep rising each year, it also continues to rise. longer.

A 2021 report from Experian – the state of the auto finance market in Q3 – just highlighted all the dreadful facts. Here are some of the most disturbing statistics:

  • In the third quarter of 2021, the average new car loan amount was $37,280, compared to $34,682 in the third quarter of 2020.
  • During the same quarter, the average payment for a new car was $606, compared to $565 in the third quarter of 2020.
  • During the same quarter, the average term of new car loans was 69.47 months. That’s actually shorter than in 2020, when the average loan term was 69.64 months. But it’s still almost 6 years!

In short, we are borrowing more than ever and staggering repayments for as long as we can. Remember that the medium the new car loan lasted more than 69 months in the 3rd quarter of 2021, but that’s the average. There are also many 84-month car loans, which leave people with a crushing car payment for seven full years.

With all of this in mind, you may be wondering if now is the time to change the way we process auto loans or refinance your auto loan for a better deal. There are many scenarios where refinancing makes sense, but there are still times when it’s best to stick with the car loan you have.

When to refinance your car loan

There are four main reasons why you should consider refinancing your car loan, and several can apply for it at the same time.

Your credit score has improved significantly since you bought the car

If you had poor credit when you bought your car, refinancing now could help you save on interest or pay off your car faster. This is because, for the most part, the interest rate you can qualify for is closely tied to your credit score.

According to Bankrate, people with credit scores between 300 and 500 paid an average APR of 12.99% on their car loans at last count, while those with scores of 501 to 600 were charged an average APR. of 9.92%. On the other hand, people with fair to excellent credit, or scores of 601 to 850, paid APRs ranging from 6.32% to 2.58%.

If your credit was poor when you bought your car but your score is well over 600 now, refinancing your car loan might be a financially smart move.

Interest rates have dropped since you originally financed the vehicle

Maybe your credit score is about the same as it was several years ago. In this case, it is still possible that you could benefit from the lower auto loan rates that are available today.

For example, the Experian study showed that the average auto loan APR for new cars was 5.38% in 2019, then fell to 4.23% in 2020 and 4.05% in 2021. If you check the rates today and they are lower than they were when you took out your auto loan several years ago, a refinance might make sense.

You want to pay off your car faster

If you want to pay off your car loan faster, refinancing into a new loan with a shorter repayment term could put you on the right track. This is especially true if your current auto loan is one of the longest at 84 months.

Of course you don’t duty refinance your auto loan to pay off your car faster. Provided your current loan doesn’t charge any prepayment penalty, which it shouldn’t, you can pay more than the minimum loan payment on your car and accomplish the same thing.

You need a more affordable monthly payment

Maybe you need a more affordable monthly payment than what you have now. In this case, refinancing into a new car loan with a longer repayment term, a lower interest rate, or both, could help you achieve this goal.

Just keep in mind that extending your repayment term puts you in even longer debt. You could also end up paying a lot more interest.

Refinancing your car loan: what we need to watch out for

While any of the above reasons can make refinancing your car loan a good deal, there are some serious pitfalls to avoid. For example, you need to watch out for refinancing fees, including prepayment penalties on your existing car loan and fees for the new car loan you’re considering.

Although most auto loans don’t have a prepayment charge, you’ll still want to read your loan agreement to verify. In the meantime, you’ll also want to compare new car loans to look for options that don’t charge origination fees or application fees.

Also keep in mind that refinancing your auto loan to extend the term can have its own set of pros and cons. You may be able to get a lower monthly payment, for example, but you may end up paying off your car loan much longer than you’d like.

You should also ask yourself if refinancing your auto loan is worth the time and effort. If you don’t owe much and can afford to pay more than the minimum, you can get off your car loan sooner by making larger monthly payments instead.

The essential

Does refinancing your car loan make sense? For most people, the answer to this question is a solid “maybe”. In the end, it really comes down to what you stand to gain by refinancing.

For example, could refinancing help you save time, money, or both? Maybe you could get a lower monthly payment that better matches your current income and bills. Consider playing around with an auto loan repayment calculator to find out for sure.

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