Auto Loan Refinancing: Pros, Cons & Next Steps | Bankrate
The cost of keeping your vehicle on the road each month is a challenge for many. Monthly payments on cars have soared — an average monthly payment of $503 for used vehicles and $648 if you buy new, according to Experian.
Many consumers consider refinancing — or replacing their current loan with a new one — to make these costs more manageable. If your circumstances have shifted or market conditions have improved since you took out your current loan, refinancing may reduce your monthly payments.
But refinancing is not without risk and can end up being more costly in some instances. So, it’s best to consider the benefits and drawbacks of refinancing and assess your financial situation to determine if it’s a smart move.
Pros of refinancing your car
The benefits of refinancing your current auto loan comes down to saving money. Consider these when determining if refinancing is right for you.
Lower interest rates
Your interest rate significantly impacts your monthly auto loan payment. This number is based on a variety of factors but is primarily affected by your credit score. So, if your credit has improved since you took out your loan it may be a great time to explore refinancing options. You will likely receive more favorable terms and rates.
Lower monthly payments
If you are struggling to meet your monthly payments, refinancing can lower your costs and free up some extra cash each month. You can do this by getting a lower rate, a longer term or both. But although signing off on a longer term means you can save money on a monthly basis, it also means a higher total cost as you’ll pay more in interest over the life of the loan.
Pay off your loan sooner
Refinancing can also lead to paying off your loan early. If your income has increased since taking out your auto loan, it may be a good time to refinance to a shorter term. By paying off your loan early, the interest you pay will decrease — assuming the lender does not charge prepayment penalties.
Cons of refinancing your car
Pressing the restart button on your auto loan by refinancing is not without its risks. Consider these disadvantages.
High interest rates
Refinancing also comes with the risk of higher interest rates. If your credit has taken a dip, or interest rates have gone up, you may end up with an interest rate that’s higher than your current one.
In the current market, steep interest rates aren’t uncommon given the recent Fed rate hikes that have driven interest rates up to record highs. So, it’s in your best interest to shop around for different options to do your best to avoid sky-high interest rates or wait it out until market conditions improve.
Additional fees
If you are in a tough financial situation, keep in mind that refinancing your loan does come with some extra fees. These costs can include application, prepayment, title transfer and origination fees. Because the fees can add up, be sure to fully calculate how much the refinance will cost you and how the rate and term compares to your current loan.
Could become upside down
If you refinance and extend the life of your loan, you are more likely to be in a situation where you owe more than your vehicle’s worth. This is commonly referred to as being upside-down or underwater on your loan.
How to determine if refinancing your car is a good idea
The key to determining if refinancing your loan is a good idea comes down to the amount of money you can potentially save. Weigh the pros and cons while taking advantage of an auto refinance calculator. Below are some situations where it might make sense to refinance:
- Your credit improved. If your credit score has improved, you may receive more favorable terms and rates through refinancing.
- You received dealer financing. Typically, the terms offered through dealerships are not the best available. Explore other lending options if you currently have dealer financing.
- You can’t make payments. Missing payments can result in fees, damaged credit or worse: repossession of the vehicle. If you cannot make payments, refinancing may get you a lower monthly payment.
Next steps
Before looking for refinance rates, weigh the advantages and disadvantages and how they apply to you to make an informed decision. Ideally, you want to save money instead of simply stretching out your loan term.
If you are struggling financially, it may be sensible to look beyond refinancing to get a more affordable monthly auto loan payment. Ask the lender to modify your current loan or consider trading your car in or selling it privately to get the relief you need.
But if refinancing is the right choice for you, check out Bankrate’s winner for the best auto lender.