Refinancing a Car Loan: When It Makes Sense

Refinancing a car loan means taking out a new loan to pay off your existing one, usually with a different lender and, ideally, a lower interest rate. If your credit has improved since you bought the car, or interest rates have fallen, refinancing can lower your monthly payment, your total interest, or both.

But refinancing isn't automatically a good deal. Extending the loan to get a lower payment can mean paying more in total, and fees can eat into the savings. This guide explains when refinancing makes sense, how to check the numbers, and how to do it.

Signs refinancing might help

• Your credit has improved significantly since you took out the loan.
• Market interest rates have fallen.
• You took dealer financing without comparing offers, and may have paid a higher rate than necessary.
• You need a lower monthly payment and understand the trade-off of a longer term.
• You want to remove or add a co-signer, which usually requires a new loan.

Two ways refinancing can work

Here's an example. You have $22,000 left on a loan at 11% APR, with 48 months remaining. Your payment is about $569 a month, and you'd pay about $5,293 more in interest if you keep the loan.

• Keeping the same term at a lower rate saves about $2,006 in total, before any fees, and lowers the payment by about $42.
• Stretching to 60 months lowers the payment by about $133 a month, and in this example still costs less in total, because the rate drop is large. But you'd pay for a year longer, and with a smaller rate drop, a longer term can easily cost more in total than keeping your current loan.

The rates are examples to show how the math works, not current market rates.

How to check whether it's worth it

1. Get your payoff amount from your current lender. It's slightly different from your balance, because it includes interest up to the payoff date.
2. Calculate the total you'd still pay on your current loan: your payment times the months left.
3. Calculate the total for the new loan: its payment times its term, plus any fees.
4. Compare the totals, not just the monthly payments.

You can run both scenarios in our Car Loan Calculator by entering your payoff amount as the price, with no down payment, then changing the APR and term.

Costs and catches

• Fees. Some lenders charge an origination or application fee, and your state may charge a fee to transfer the title and lien. Include these when you compare.
• Prepayment penalties. Check whether your current loan charges a fee for paying it off early. Many auto loans don't, but some do.
• A longer term. Lowering your payment by extending the loan often increases the total interest, and keeps you owing more than the car is worth for longer. See How Long Should a Car Loan Be?
• A hard credit inquiry, which can lower your score slightly for a short time. Shopping several lenders within a short window usually counts as one inquiry for scoring purposes.
• Gap coverage and add-ons. Gap insurance or service contracts bought with your original loan may end when you pay it off. You may be due a prorated refund, and you may need new gap coverage if you still owe more than the car is worth. See What Is Gap Insurance?

When refinancing may not make sense

• You're near the end of the loan. Most of the interest has already been paid, so there's little left to save.
• Your car is older or high-mileage. Many lenders have limits on vehicle age, mileage or minimum loan amounts for refinancing.
• You owe much more than the car is worth. Lenders may decline, or offer a higher rate.
• Your credit has gotten worse, or rates have risen since you took out the loan.
• The fees outweigh the savings.

How to refinance, step by step

1. Check your credit and fix any errors on your reports.
2. Gather your loan details: payoff amount, current APR, months remaining, and your car's year, make, model, mileage and VIN.
3. Compare offers from credit unions, banks and online lenders, applying within a short period.
4. Compare by total cost, including fees, and choose the shortest term with a comfortable payment.
5. Apply and sign with your chosen lender. The new lender usually pays off your old loan directly.
6. Confirm the old loan is paid off, and keep making payments until it is, so nothing is missed during the switch.
7. Update your insurance with the new lender's details, since lenders are listed on the policy.

Refinancing vs paying extra

If your main goal is paying less interest, paying extra toward principal on your current loan can also help, with no new credit check or fees. Ask your lender to apply extra payments to principal. If you can get a significantly lower rate, though, refinancing and then paying extra can save even more.

When the savings are too small

Refinancing late in a loan often saves very little. Suppose you have $8,000 left at 9% with 12 months to go. Your payment is about $700, and you'd pay about $395 more in interest. Refinancing to 7% for the same 12 months would lower the payment to about $692 and the interest to about $307, saving about $89 in total. A single title or application fee could wipe that out. In a case like this, paying extra toward the current loan is usually simpler.

What lenders usually look for

Refinancing requirements vary, but lenders commonly consider:

• Your credit history and score
• Your income and existing debts
• The car's age and mileage, since many lenders set maximums
• The remaining balance, since some lenders have minimum loan amounts
• The loan-to-value ratio: how much you owe compared with what the car is worth
• Your payment history on the current loan

If one lender says no, another with different criteria may say yes. Credit unions are often worth checking.

Cash-out refinancing

Some lenders offer cash-out refinancing: borrowing more than you owe and receiving the difference in cash. It can seem convenient, but it increases your loan balance, adds interest, and makes it more likely you'll owe more than the car is worth. It's generally worth avoiding unless the alternatives are more expensive, such as high-interest credit card debt, and even then, compare carefully.

Refinancing to pay off the car sooner

Refinancing isn't only about a lower payment. If your income has grown, you can use a lower rate to shorten the loan instead. Using the earlier example, refinancing the $22,000 balance at 7% over 36 months instead of 48 would raise the payment to about $679, but cut the interest from now on to about $2,455, saving about $2,838 compared with keeping the current loan, and finishing a year sooner.

Timing tips

• Check your credit before applying. A higher score since you bought the car is the most common reason refinancing pays off.
• Compare offers within a couple of weeks, so multiple applications count as one inquiry for most scoring models.
• Refinance earlier rather than later in the loan, when more interest remains to be saved.
• Don't miss a payment while switching. Keep paying the old loan until the new lender confirms it's paid off.

Putting it together

• Refinancing can save money when your credit has improved or rates have fallen.
• Compare total cost from now on, including fees, not just the monthly payment.
• Extending the term lowers the payment but can raise the total cost.
• It's less worthwhile near the end of a loan, on older cars, or when fees outweigh savings.

For the basics of how auto loans and APR work, see How Auto Loans Work and How APR Works on Auto Loans.