Have you heard people talking about refinancing and wondering what it’s all about? In this post, we’ll explain the process, and the benefits, and explore the reasons why you might choose car loan refinancing.
“What does refinancing a car loan mean?” doesn’t require a complicated answer, but it’s important to know all the facts.
What Does Refinancing a Car Mean?
Refinancing a car is when you replace your current auto loan with a new one. You use the new auto loan to pay off your current car loan.
Most refinancing loans are secured by the car and you pay them off in fixed monthly payments over an agreed period, generally a few years.
The Pros and Cons of Refinancing Your Car
Car refinancing is a big decision. Before you decide whether it’s the right thing for you, consider the pros and cons. For many people, car refinancing opens the door to new opportunities, but in some situations, there are drawbacks.
Pros of Refinancing
- Lower rate of interest: This is possibly the most important benefit of refinancing your auto loan. If you can secure a lower interest for your refinancing loan, it could help you save money.
- Debt consolidation: Cars are a valuable asset you can borrow against. If you owe less than your car is worth you could use the difference to help pay off debt or deal with any other financial needs you might have. You might also use the equity to pay off your credit cards, which generally have a higher interest rate than a car loan.
- Lower monthly payments: You can lower your monthly payments if you secure a lower interest rate, or extend the length of your loan.
- You want a new lender: If you don’t like your current lender, you might want a different one. However, be aware that there are applicable costs.
Cons of Refinancing
- Refinancing costs: Some financial institutions charge closing fees and various other fees if you want to refinance. These can add up if you’re not careful. Always ask about the fees before you decide to refinance. Any planned savings should be more than the cost of refinancing.
- Cost of increasing the loan term: You could end up paying more for your loan. The longer the term, the more expensive it will be. However, this might not necessarily be a bad thing. Paying a bit more might be preferential to juggling high monthly payments.
- Securing your debt: If you’re consolidating debt with a car refinance loan, you may be forced to sell your car if you default on the payments.
How to Refinance Your Car
Every situation is different and it’s down to you to decide whether you want to refinance your car. To help answer the question “What is refinancing a car loan?” let’s run through the process so you can see how easy it is.
Check Your Credit Score and Report
Before you refinance your car loan, it’s important to check your credit score and report. This will ensure your information is up-to-date and accurate.
If your credit score is more than 670, you may be able to secure a lower interest rate. The average APR for new and used car loans tends to be between 5.82% and 7.83%, provided your credit score is between 661 and 780. Interest rates will increase to between 8.12% and 12.08% if your credit score is between 601 and 660.
Compare Rates and Shop Around
Once you know your credit score, you can compare auto loans from several lenders. If you want to get the best possible rate, prequalify with several lenders before you submit a full application.
Gather Relevant Documents
If you gather all the necessary documentation ahead of time, it will help to simplify the application process. In general, the same documents are required whenever you secure a load. They include:
- Your driver’s license
- Proof of insurance
- Proof of income
- Your Social Security number
In addition, you’ll need to get a copy of your original loan contract. If you can’t find the original paperwork, you’ll need to contact your lender and ask for a copy.
Any possible new lenders will likely want the following information:
- The outstanding balance of your load
- Your current monthly payments
- How much time is left on your loan
- The interest rate you currently pay
- Vehicle information, such as the VIN (Vehicle Identification Number)
Ask the Right Questions
Before you sign on the dotted line, there are some details you need to be sure about. Make sure you read the fine print of the refinancing contract and ask questions about the following:
- How the refinancing process works
- What is the Annual Percentage Rate (APR)
- What is the duration of the loan?
- Are there any origination fees or penalties for early payoff
Apply or Prequalify for Financing
If you’re not sure where you stand, getting prequalified won’t add an inquiry to your credit report and will give you a better idea.
However, if you’re certain you’ve found the right deal and are confident you’ll qualify, there’s nothing wrong with jumping in and starting the application process.
Pay Off Your Current Loan
When the application process is complete, you’ll either receive a check from your lender or they will pay off your existing loan. You must continue to make payments on your existing loan until you’re certain it’s completely paid off.
Reasons Why You Might Choose to Refinance Your Car Loan
You may find car refinancing very beneficial in the following situations:
- Interest rates have dropped since you took out your original loan: Interest rates change regularly. Rates may have fallen since you took out your original auto loan. A drop of just a couple of percent may result in significant savings.
- Your financial situation has improved: Lenders take into consideration several factors when deciding on an auto loan rate. These factors include debt-to-income ratio and credit scores. If your credit health has improved or your DTI ratio decreased, you might be entitled to more favorable terms.
- The first offer you got wasn’t the best: It’s often a good idea to shop around for better loan terms.
- You’re struggling to keep up with your monthly bills: A longer loan repayment period could reduce your monthly car payments.
When is Refinancing Not a Good Option
Refinancing can save you money, but it’s not the best option for everyone. If any of the following scenarios apply you might want to hold off on your refinancing plans.
- You’ve paid off most of your original loan: Interest tends to be front-loaded which means you pay more of it off at the beginning of your loan. The longer you wait to refinance, the less you’ll save on interest.
- Your car has a significant number of miles on it or is old: Cars depreciate quickly, so the first few years of owning your car are the best time to refinance. Sometimes, lenders prefer not to refinance cars that are over a certain mileage or age.
- The benefits are outweighed by the fees: Check all the fees associated with refinancing. Ask about prepayment penalties, additional interest, and loans with precomputed interest.
- You probably want to apply for more credit in the future: Auto refinance could negatively impact your credit, so you might want to hold off if you’re considering applying for a mortgage or credit card in the future.
Alternatives to Refinancing
If qualifying for auto refinancing is a problem, don’t worry because there are other options:
- Request lower monthly payments: Your current lender might be willing to work with you if you’re struggling to keep up with payments.
- Sell your car: You can get rid of the loan by selling the car. However, if you accept an offer for less than you owe, you’ll have to pay the difference.
- Roll your loan into a new one: Some car dealerships offer trade-ins and you can roll over the remaining loan into a new loan.
- Time your refinancing: You might qualify for a better rate in the future. Work on improving your credit score and make your application when you can get a better rate.
We hope you’ve found this post interesting and we’ve answered the question “What does refinancing a car mean?” in full. Knowing everything there is to know means you’re able to make an informed decision.