If you’ve been scrutinizing your budget lately, and considering ways to save money, your monthly car payment is probably an expense you’d be happy to shrink. Fortunately, there are options available to drivers seeking to rein in the cost of car ownership without letting go of their ride. Loan modification is one approach to a…
Monthly car payment too high? There’s something you can do about it.
If you’re like many Americans, you probably have a loan on your car.
According to data from Experian, one of the three major credit bureaus, 85% of new cars and 54% of used cars were financed in the fourth quarter of 2019. What’s more, the average loan term length for new car is 69 months and used car was 65 months — that’s a long time. And if you’re unhappy with the interest rate you drove off the car lot with, that’s a whole lot of money you’re begrudgingly paying your lender.
The truth is, just because you got that auto loan from your dealer doesn’t mean you need to keep it. Whether you’re hoping to pay off your car loan early or just want to see if you can get a better deal, you do have control over how much interest you pay over the life of your loan.
Enter auto loan refinancing.
The goal is this article is to educate you on the benefits of auto loan refinancing, explain the process, and hopefully, help you get a better interest rate and save you money. So, let’s get started.
- Part 1: How Does a Car Refinance Loan Work?
- Part 2: Do I Qualify for a Car Refinance Loan?
- Part 3: How to Apply for an Auto Refinance Loan
- Part 4: How to Evaluate a Car Refinance Offer
In simplest terms, refinancing is the process of using a new loan to replace one that already exists. The new loan pays for the same item (this is known as the collateral). There are many reasons for refinancing (which we’ll cover below), but ideally, you’d end up with a better interest rate and a lower monthly payment.
With an auto refinance loan, a new lender pays off the debt of your current car loan with your current lender. In exchange, the new lender holds the collateral (your car) on paper (your car’s title) while you pay back the new loan, plus interest and any fees. When the refinance loan is paid off, the title is transferred to you, and you officially own your car free and clear.
Auto refinance loans are secured loans. This means if you can’t make the payments on your refinance loan, the lender can repossess the vehicle and sell it to make up for the financial loss.
Given that loan terms and rates are determined by several factors, you could save a lot of money by refinancing at a time when the factors are more favorable.
Why Should I Refinance My Car Loan?
Loans are complex.
They’re based on the borrower’s financial history, credit, and current lifestyle, but also other external factors, like the economy. This means that at the moment when the loan is generated, it is a reflection of both you and the globe at the time when you chose to purchase your car. Though that seems a bit complex now, it is helpful to understand the reasons why people consider refinancing.
1. Save money
You shop around when you are buying a new pair of shoes, so why not shop for the best auto loan too? Comparing all of your options versus taking whatever offer the dealership or your bank throws at you will probably save you money and free up extra cash for your monthly budget or savings account.
We all want to save some money and put it towards other priorities. Though a desire for “saving money” isn’t necessarily a qualification that would determine whether you’re approved for a refinance, it’s certainly one of the major motivators for doing so, as it can save you a lot of dough.
2. Lower interest rates
The Federal Reserve controls the baseline interest rates for lending institutions nationwide. They change regularly in an effort to regulate the economy. It’s likely that rates are lower than when you originally took out the loan, meaning that you could be eligible for a loan with a better rate.
Update: In 2020, interest rates are the lowest they have been in years due to rate cuts by the Federal Reserve.
3. Subprime auto loan
We’ve all been there. Maybe you were in a pinch, and a subprime auto loan was your only option. Maybe you didn’t have the best credit when you bought your car and were stuck with a really high rate. Maybe you just didn’t know better, and you agreed to a loan without shopping around
It’s important to act quickly here, though, as car loans with high interest rates are more likely to be upside down more quickly, meaning you owe more on the loan than the vehicle is worth.
It’s also more difficult to qualify for refinancing with a heavily upside down loan. However, If you’ve done work to improve your credit, increased your income, or reduced your overall debt or cost of living, it’s very possible that you could qualify for a much more desirable auto loan.
4. Loan term too long
Sign up for an 80-month term to get a lower rate? You’re not alone. While that option might have been preferable for you at the outset, longer term loans are also more likely to be upside down, and tend to cost more in interest in the long term. Refinancing can get you into a loan with fewer installments.
5. Dissatisfied with your lender
Maybe you took out an auto loan with the dealership where you purchased the car or with your primary bank. Some of the time that leads to unforeseen issues, like agreements signed without reading the fine print, and ultimately, frustration.
Or, maybe you simply moved and want a lender who is more local to your new location, or one that offers online payment options. Or, perhaps you’ve heard the benefits of financing through a credit union, and thought you’d give it a try.
Whatever your motivation for switching lenders, refinancing is the way to go.
6. You’d like to buy the car you’re leasing
Also known as a “lease buyout“, the process of buying a car that you have on lease is a little different than just re-buying the car. Refinancing allows you to secure a loan in order to purchase the car at its post-lease estimated value.
7. Need to add or remove someone from your loan
Whether you took out a joint loan or one with a cosigner and would like to remove them, or whether you’re seeking to either get a better rate by adding a cosigner or add your new significant other, refinancing can help you with that.
When is Refinancing My Car Loan Not the Best Option?
While we’d love to think that refinancing is a great fit for everyone, the truth is, there are certain situations where it either doesn’t make sense or it’s just not possible.
1. You have bad credit
Bad credit may be one of the reasons drivers find themselves in undesirable loans to begin with. If your credit score and history hasn’t shown much improvement since the loan was originated, then refinancing likely won’t be beneficial, as the offers presented could still come with high rates, fees, or tough terms.
In the same vein, if your credit score is lower than it was when you first bought the car, you’re likely to get offers that are worse than the loan you started with. If you’ve had issues with your credit recently, it might be best to take steps to improve your score before making other financial decisions, as credit history is an important factor for lenders and creditors of all types.
2. You’re very upside down
Cars depreciate quickly. Because auto loans are secured by the car itself, the car’s worth is important because it helps understand how much of the loan could be paid back simply with the value of the car.
Loans that are upside down have a high loan-to-value ratio, or LTV. This means that the amount of the loan is more than the value of the car.
Loans are more likely to become upside down if it has a high interest rate, or if the car itself is older, higher mileage, or if the model tends to have a lower resale value. Given that cars do depreciate more quickly than other assets, being a little bit upside down is normal. Most lenders accept upside down refinance loans up to a certain point, typically around 125%.
However, if your LTV is risky, you may encounter loan offers that come with high rates or large down payments, ultimately costing you more. If you are quite upside down in your current loan, over 125% LTV, it might be difficult to find a lender willing to refinance altogether.
Car (LTV) Loan-to-Value Calculator
Read more about upside car loans and LTV.
3. You’ll pay high fees
Sometimes loans have clauses that attempt to prevent refinancing by charging early payoff fees called prepayment penalties. Yes, it’s a penalty for paying off your car loan early. These are common in subprime auto loans.
Additionally, certain lenders charge more than others to complete a refinance loan. It’s important to understand all related costs of refinancing, do the math, and determine whether the fees, if any, outweigh the potential savings. You may find that it’s cheaper to stay in your current loan than refinance, after all.
4. Your loan is almost paid off
If you’re close to paying off your loan and want to refinance, it may be better to stay put. You see, much of the interest in a car loan is front-loaded, meaning that a majority of the total interest on the loan is paid for in the initial payments. If you want to refinance to save money, it may not benefit you if you’ve already paid for the interest.
5. You plan to apply for more credit soon
Looking to buy a home in the near future? It may be better to wait until after that purchase is made to refinance your car. Lenders don’t just consider credit history — it’s also about the overall amount of debt you have compared to your income.
You’ve probably heard of the term debt-to-income ratio or DTI, which compares your monthly debt payments to your gross monthly income. When applying for a mortage, DTI requirements may be a little more strict (below 36%) whereas auto lenders are more flexible (up to 50% or no limit at all).
Refinancing your car loan might allow you enough savings to improve your debt-to-income ratio, better positioning you for lower rates on future loans. However, you still have those credit inquiries to think about.
Alternatively, if you just took out loan, that might influence your DTI ratio in the opposite direction, potentially making the offers you’re presented with less desirable.
Simply put, it’s important to consider your overall financial picture before deciding to refinance your car loan.
Some people choose not to refinance because they’re unsure about their likelihood to qualify. But, refinancing isn’t as difficult as it may seem.
There are a few important things lenders consider when choosing whether to approve a borrower for a refinance loan. (Contrary to popular belief, it’s not all about credit.)
Your DTI, or debt-to-income ratio, is an important factor lenders consider when assessing your financial picture. They look at how much debt you have overall, including student loans, credit cards, and mortgage payments. That total amount is compared to your gross monthly income.
If you have a lot of debt compared to your income, you have a high DTI. From a lender perspective, those with a high DTI are considered riskier borrowers because their budget is tight. On the other hand, those with a low DTI are considered less risky because they have more room in their monthly budget to handle any unexpected life expenses and still make their payments.
As mentioned above, your LTV, or loan-to-value ratio, a representation of how much you owe on your car loan compared to what it’s worth.
Owing more means you’re upside down on your car loan. This means your LTV is over 100%. That overage is considered unsecured — which worries lenders — because selling the vehicle will still leave you with a remaining balance on the loan.
This is risky to lenders who would be stuck with this amount should you stop making payments on your loan. Thus, lenders tend to shy away from high LTVs, or over 125%.
Your car’s age matters. Unfortunately, most cars don’t age “like fine wine.” In fact, they depreciate every day, with every mile, and with every new model year’s release.
Most refinance loans won’t cover cars that are more than ten years old. That’s because they tend to be too upside down in their loans to qualify for refinancing.
Mileage and age are equally important when it comes to LTV calculations. Lenders prefer to refinance cars with less than 120,000 miles on them.
In order to refinance your car, it needs to be a “personal use” vehicle. That means that it can’t be used as a part of your business.
For example, if you drive for a rideshare company, your car is considered a business-use vehicle. Because business-use vehicles have more wear and tear, they tend to have higher loan rates and different insurance requirements. This is why lenders in the refinance sphere focus on personal loans – though some will make an exception to this rule.
18 years old
We know, we know. Adults really do get to have all the fun.
Our lender network requires that one must be a U.S. citizen in order to refinance. However, some lenders will make that exception. Before applying, be sure to check with your potential lender if they refinance to non-citizens, permanent residents, or any other kind of visa holder.
What Do I Need to Apply for an Auto Refinance Loan?
Though each lender or broker may differ in their information requests, we consistently ask for the same general things. However, since we do personalize each refinance experience and tailor the offer specifically to you, we may request information that’s not on this list.
PII is just an acronym for “Personally Identifying Information.” So that we can make sure you are who you say you are, we ask for information like your driver’s license, registration, and your insurance card after the initial application process.
A co-borrower isn’t necessarily a “need” for everyone, but adding one onto your loan could significantly help improve both your odds of approval and the rate you’ll be offered. Furthermore, if you had a co-borrower on the original car loan, you’ll need to include them in the refinance, too.
You will be asked for various information about your new vehicle like your registration, mileage, VIN number, and even trim and upgrade options. This is important information because it not only helps to verify that you’re refinancing the correct vehicle, but assists in understanding the true value of your car in order to get you the best rate possible.
Lenders want to know your employment history and status to 1.) make sure that you have a job and that 2.) you’ve consistently held a job. To do this, they will likely ask for recent pay stubs.
If you’re self-employed, they may ask for your most recent tax return as proof of income. If you’ve only been at your current job for a short time, they may ask for more information about your previous employers, but this is done on a case-by-case basis.
Will Applying for an Auto Refinance Loan Impact My Credit Score?
Yes, applying for a car refinance loan can impact your credit, but it depends on what action you decide to take.
Pre-qualified offers only use broad credit data, using what is called a “soft pull,” meaning that it does not impact your credit score.
Keep in mind that whatever offers you see may not be truly representative of what you’ll when you actually complete the whole application since it’s not using your credit information to make a lending decision.
Applying for refinance
After you’re pre-qualified and you decide to take the next step to finalize that offer, your credit will be hard pulled. This is the case for any lender — it’s necessary to conduct a hard credit pull to generate a firm offer of credit.
Your Social Security number is not required for a hard credit pull. Your credit can be pulled with your consent using other information, such as your name, date of birth, and address. However, if you choose to not provide your Social Security number with your application, the credit information pulled from other sources may not be as accurate.
If you choose to shop around for offers (also known as rate shopping, a strategy we recommend), it’s likely that your credit will have multiple credit inquiries. Luckily, all hard credit pulls after the first one should not count against you if they’re within a 14 to 45-day period, though it may take a few weeks for that to reflect on your score.
Once you decide to refinance, it’s time to choose how you’d like to proceed with the application. Though we may be a little biased about the best option for refinancing (ahem, RateGenius 😉), there are several different methods for refinancing, all of which have certain pros and cons that work best for different people.
No matter which route you prefer to go, it’s prudent to compare rates and offers from multiple lenders so that you have the opportunity to choose the one that’s right for you and your wallet.
Pro tip: You can also compare pre-qualified auto loans with the RateGenius Auto Payment Saver tool.
Most people use banks to store their money, which is why they are a commonly chosen as a lender.
- Pros: Accessible in most towns and online, have many technology resources, good rates, and are easy – especially if you’re already banking with them.
- Cons: Can be a bit “corporate”, meaning that they may not necessarily treat you on a personalized basis, and they may not offer the lowest rates.
Credit unions are an alternative banks, but because they have less brand recognition, they are less frequently utilized.
- Pros: Auto loans are their “bread and butter”, meaning they offer low rates. Credit unions have similar banking offerings as regular banks, there are benefits to credit union membership, and members are treated on an individual basis.
- Cons: Some credit unions are rather small, which tends to mean that they have fewer resources than larger lending institutions.
A loan broker, like RateGenius, acts as a middleman of sorts in order to find the best possible refinance offers for you.
- Pros: Works with a multitude of lenders, does the shopping for you, and allows you to get the best possible rate on your refinance. They also allow personalized service, and do all the hard work for you, making the refinance process as easy as possible.
- Cons: Not all brokers are the same. Some only work with a few select lenders (we work with over 150), thus limiting the amount of offers you receive. Some brokers may also charge hidden fees or present offers that aren’t in the customers’ best interest.
Marketplaces like LendingTree or Lendio work with lending institutions to give them the opportunity to compete for your business. Unlike using a broker, the customer works directly with the lender they choose via the marketplace to complete the refinance process.
- Pros: Lenders compete, so you can choose a rate that works best for you.
- Cons: Can be overwhelming. Lenders will work very, very hard for your business. Service may also lack a personal touch.
How Long Does It Take to Get an Approval or Denial Decision?
We can’t speak for other lending institutions, but we can say that our applicants typically get a response from us within about 24-48 hours, though in some cases it can take about three business days.
However, some approvals take longer than others because either some pertinent applicant information missing, the office is closed, or the loan officer needs to pitch the lender network on your behalf.
Read the Terms & Conditions
This is a good rule of thumb for any decision. The terms and conditions are there for a reason. It’s always a smart choice to read them prior to clicking “accept” so that you’re aware what you’re agreeing to.
What Do Lenders Need to Close the Auto Refinance Loan?
Filling out the initial application is just the first step. In order to get you for application to approval to closed loan, your lender will require some additional information and documents.
Proof of income, vehicle information, credit history
A large majority of that information is obtained during the initial application or approval process. We request the information in the beginning on the lender’s behalf. However, there are some occasions when the lender may request more documentation.
As with any major financial decision, you’ll need to complete some paperwork. Though the specific documents will vary for every person and every lender, many of the documents simply require the borrower to acknowledge the loan terms and to confirm vehicle and personal details pertaining to the loan. This phase of the process is important because any issues or discrepancies can cause a delay in the funding of the loan, so it’s essential that you complete the documents carefully.
Your car’s title
The title lists various details about your car, including the financing information. Because refinancing often involves changing lenders, the title paperwork must be amended to include the new lender in order to finalize the process.
Good to know: Not all brokers, companies, or lenders will complete this process for you. So be sure to ask whoever you’re working with if you’ll be responsible for the title work or if they will process it on your behalf.
If you choose to work with RateGenius, we will work on your behalf to coordinate with your state’s DMV and your new lender to change the title. If you live in a state where the driver possesses the title, then it will be returned to you once the process is complete. If you live in a state where the lender keeps the title until the loan is paid off, then the title will be given to your new lender once the changes are made.
What Happens Once I’m Approved?
Once you’re approved, there are few more things to take care of before you get to drive off with your extra monthly savings.
How long does the car refinance process take?
The time frame depends on how quickly you complete the documents requested by the lender. Most of the time refinances take about a week, but it can be a bit longer if there are any snags in the process.
What should I expect?
Once you’re approved, expect to receive a call from a loan officer. They’ll go over your loan options with you, answer any questions you may have, and request some information of you.
Then, we’ll send you a document packet to sign either by hand or online. Once we receive your document packet and the other items (driver’s license, title, proof of income, etc.), we’ll get it over to your lender to get your loan funded!
If you’re sitting around trying to make a decision on which refinance loan to choose, there are several things you should be looking at.
Choose savings that help your situation
Refinancing is interesting because borrowers are able to choose an offer based on their preferences and financial needs. Some customers are more focused on saving on their monthly payments, and some are interested in reducing the overall cost of the loan over time. Working with a loan officer can help you figure out your priorities and determine what offer to accept based on what works best for your individual needs.
Lower the interest rate
Lowering your interest rate might be able to save you money both in your monthly payments and over the life of your loan. However, sometimes lowering your interest rate might result in a shorter loan term, making the payments slightly higher each month. Luckily, that will also mean paying off your loan more quickly and saving money over the life of your loan.
Shorten the term
As we mentioned, shortening the term might have an impact on your monthly payment, but if your goal is to save money over time, this might be a great option for you. A shorter term loan might be best for you if you have a low DTI, and therefore more flexibility in your budget to handle the potentially higher payments. Plus, shorter loan terms tend to come with lower interest rates, too.
Lower your monthly payment
Though a lower interest rate might also come with a lower monthly payment, it may be that you’re presented with options have a similar interest rate but a longer term. If you’re looking to save money now, rather than later, to free up some money in your monthly expenses, it’s probably best to choose the offer that gives you the most monthly — rather than long term — savings. For example, our customers save $83 a month on average, which certainly makes a difference for those of us living paycheck to paycheck.
Pay down the balance
Being debt-free is a great financial goal to work toward. Not only does it build your credit, but it also makes you the official owner of the car, and frees up however many hundreds of dollars per month you were previously putting toward your car payments. If your primary goal of refinancing is to pay off your balance faster, it’s important to first confirm that both your previous and new lender does not have any prepayment penalties.
If that’s the case, then it’s time to choose an offer. If you can afford it, it might make sense to choose a loan with a short term so that it has the quickest payoff time. Another great option would be to choose a lower interest loan, and simply pay more on certain (or all) months to lower the balance more quickly.
Get more savings with an auto pay discount
Some lenders will provide discounts on auto loans for customers to register for automatic payments. These systems automatically take the payments from your bank account each month on the same day. This system makes it easier for both borrowers and lenders.
However, scheduling bill payments around other finances is commonplace for those who have funky financial schedules or tighter budgets, and it may be that auto pay doesn’t work for your budgetary management style. If you think it might be a good fit, or if you have questions about the program, ask your new lender for more information before finalizing your refinance.
Fees or Other Expenses
Depending on how you choose to refinance and your new lender, there may be various fees associated with the process.
Some brokers may charge a fee for their service. Sometimes this is labeled as a “document fee” or a “processing fee.” In addition, there may be other costs associated with refinancing. For example, some of the documents may require a notarized signature, which can cost money. Though relatively rare, the lender may ask that you renew your registration or add a certain coverage to your car insurance plan. And, in cases where refinancing is motivated by a divorce, death, or other major life change, there may be costs associated with obtaining legal documents required to complete the process.
Your old or new lender might charge a penalty for paying off your loan early. Make sure that’s not the case before you apply for refinancing, or be sure to discuss that with your new lender before completing the process.
If the cost of prepaying your loan outweighs the benefits of paying off your loan early, it may be best just to keep your current loan schedule.
Additional Vehicle Coverage
Refinancing your car loan is a great opportunity to add coverage to protect your car. Here are some options you may be presented with.
GAP, or Guaranteed Asset Protection, is an essential coverage option that helps protect you from being responsible for the remaining loan balance in the event of a total vehicle loss.
Think of it this way: if the car is totaled before the loan is paid off, the borrower is still responsible for repaying the lender for the loan, even if they don’t have the car anymore. That can be really financially damaging to most drivers, especially if the accident causes an injury or if it requires the purchase of another car (and therefore another car loan).
GAP basically covers drivers from having to repay the remaining balance a totaled vehicle’s loan. It can potentially help save you thousands of dollars. Though you hope you never need it, if something terrible happens, trust us — you’ll be really glad that you have it.
Vehicle Service Contract
Most Americans can’t afford to pay for unexpected repairs on their car. A VSC, or Vehicle Service Contract, is an addition to your loan package that provides the same peace-of-mind as your car’s warranty, but with more flexibility.
You can buy a VSC at any time, but the benefit of buying it when you refinance your car loan is that the cost is spread out over the life of your loan, reducing the financial burden of footing the bill all at once.
Last Things to Consider When Refinancing Your Car Loan
As we wrap up this guide, here are our final words of wisdom to share about the car refinance process.
Calculate your savings before you apply
Most people want to refinance because they either want to save on their monthly payments, over the life of their loan, or – ideally – both. If one or both of these is your main goal, it’s important to understand the math behind the offers you’re presented.
Check out our auto refinance calculator to help you double check.
Look at the Federal Reserve interest rates
The Federal Reserve does its part to help regulate the economy. Part of that is to set standards for national interest rates in order to prevent or recover from an economic downturn. In 2019, the Fed cut rates for the first time in a decade in hopes of stimulating the economy a bit, and in 2020, the Federal Reserve lowered rates even more. This is great news for borrowers, as lower interest rates could mean better offers from prospective refinance lenders.
Check your credit score
Your credit score is one of the most important numbers for your financial life. Lenders reference your credit score because it essentially summarizes your financial history, putting a numerical value on it to determine your creditworthiness.
Because scores can change easily, and because it’s such an important lender consideration, it’s essential that you understand your credit score before applying to refinance. There are resources online that allow you to see copies of your credit report for free every year from all three bureaus (Equifax, Experian, TransUnion).
Compare national and state averages of interest rates
Car refinance interest rates in the United States can change almost instantly. Understanding rate trends for borrowers with your credit score range can help you set expectations about what interest rates to expect when refinancing. Luckily, we’ve made it easy to get this information online with our Auto Refinance Rate Table, updated daily.
Received a pre-qualified letter in the mail?
Plenty of lenders and brokers will send letters in the mail with pre-qualified offers. We send them too. Though most recipients throw them away as “junk mail”, these letters contain personalized offers that could potentially save you a ton of money.
Got an offer from RateGenius? Use the promo code
Our mailers have a unique promo code attached to each individual letter. This helps us locate your personal offer in our system and get you on track to receive the rate that we presented. If you’d like to get the ball rolling, you can start the process by submitting your letter’s promo code here.
The Last Word
Many people don’t know that it’s possible to refinance your car loan, but those who do know that it can be a great financial move. Though the reasons for refinancing vary, and so do the outcomes, it’s relatively easy to find an offer that works best for you and your money goals.