For many Americans taking out a loan to purchase a new or used vehicle is a necessity. According to data from Experian, the total consumer balance for auto loans reached a record high of $1.37 trillion in 2020. Additionally, the average car loan balance was nearly $20,000 in 2020.
If you are one of the millions of Americans who have an auto loan, fortunately, there are options available for you to potentially decrease your interest rate and the overall repayment amount. Discover how you can save money by refinancing your auto loan and how to determine if refinancing makes sense for your situation versus when it doesn’t.
What Is Refinancing A Car Loan?
The purpose of refinancing an auto loan is to get better rates and decrease the overall repayment amount. Refinancing may reduce your monthly payments, allowing you to pay for other financial responsibilities.
When shopping around for a refinance lender, finding more favorable interest rates may not be possible. However, you may find a loan with a longer repayment period. Refinancing to a longer repayment period may also lower your monthly payment, but you may pay more interest during the loan duration.
When Refinancing Your Auto Loan Makes Sense
You may be wondering, should I refinance my auto loan? There is no one-size-fits-all recommendation to determine if you should refinance your auto loan. Your current financial situation should help guide you in that decision. However, there are a few things to look out for that can assist you in making the right decision.
Interest Rates Have Dropped
Interest rates fluctuate often depending on a variety of factors, including the market. Interest rates probably won’t change drastically, but a drop in a couple of percentage points may save you a few thousand for the duration of the loan.
Suppose your initial car loan was for $30,000, with a 7% interest rate and a loan term of 60 months. Staying with this loan will result in an estimated total payment of $35,642 with a monthly payment of $594. After a year of making payments, the estimated remaining balance of $22,872. If you decide to refinance after a year and receive a loan of $22,000 for the remaining 48 months with an interest rate of 5%, you may expect to pay $24,319 with a monthly payment of $507 for the refinanced loan. If you coupled that with the $7,128 you paid on the previous loan, your estimated financing cost would be $31,477. Refinancing a car loan in this situation would save you $4,165.
Here is a simpler look at how refinancing can save you money for the long haul.
| Original Car Loan | Refinanced Car Loan | |
|---|---|---|
| Loan amount | $30,000 | $22,000 |
| Loan term | 60 months | 48 months |
| Interest rate | 7% | 5% |
| Estimated monthly payment | $594 | $507 |
| Total financing cost | $35,642 | $31,477 |
| Rate change (money saved) | N/A | $4,165 |
The ability to decrease the overall loan payment and drop the monthly payment may help you budget and pay for other financial obligations.
Monthly Payments Have Become Uncontrollable
A lower interest rate is not the only reason people consider refinancing their auto loan. As shown from the example above, refinancing may also lower your monthly payment. You can achieve a lower interest rate in one of two ways.
The first route you can go to achieve a low monthly payment is to go with a loan with a longer-term. Generally, the longer the repayment period, the lower the monthly payment will be. However, while the monthly payment may be lower, you may end up paying more overall due to interest.
Secondly, you can bring the monthly payments down by securing a loan with a lower interest rate. If you can find a suitable loan for your financial situation, this would be advantageous to your bank account. Not only will the monthly payment decrease, but the overall repayment will drop as well.
You Didn’t Receive Favorable Rates the First Time
If you received your auto loan from the car dealership, you might want to shop around to see if you can find a lender that can provide you with more favorable terms. Often the dealership may markup the interest rate for the convenience factor and to make a profit.
Sometimes interest rates can remain stagnant, but you still may be able to find a loan with more favorable terms. Using the example above, you received a loan with an interest rate of 7%. However, if you shop around, you may find a lender offering a lower interest rate.
When Refinancing Your Car Loan Doesn’t Make Sense
Refinancing your auto loan can be a smart strategy to lower the total financing cost and monthly payment, but there are situations where refinancing isn’t the best option. The following are some instances where refinancing doesn’t make financial sense.
- You’re too deep into the original loan: Due to amortization, the interest rate gradually decreases as you move further down the payment schedule. If you’ve already paid off a good amount of the loan, it doesn’t make financial sense to consider refinancing.
- Your car has been around the block one too many times: Older vehicles or cars that have a lot of miles may not be eligible, or it doesn’t make financial sense to refinance. Some lenders will not refinance an auto loan if the car is more than seven years old or if the mileage has surpassed 90,000 to 125,000 miles.
- The original loan has a prepayment penalty: Some lenders may charge you for paying off your car loan early. Be sure to check the terms of the loan before you consider refinancing.
- You’re “underwater” on the original loan: Being “underwater” or “upside down” on a loan refers to the market value of your car being lower than the amount you owe. Most lenders will steer clear of refinancing if you’re in this type of situation.
Consider Arizona Central Credit Union As Your New Auto Loan Lender
Refinancing your car loan can make a lot of sense financially. You may be able to find favorable rates that would save you money and may bring down your monthly payment so you can reprioritize that extra money to other financial obligations.
Credit scores may play a big role regarding the interest rate you qualify for. Check out one of our more recent blog posts, How to Improve Your Credit Score: Top Five Strategies, for tips to boost your credit score.
Arizona Central Credit Union offers some of the best refinancing rates across the Grand Canyon State. You may be able to secure a new loan with low interest rates and other perks such as a deferred first payment for up to 90 days. For more information on refinancing your auto loan through Arizona Central Credit Union, visit our website or contact us. One of our financial experts will be glad to assist you.
