Is there ever a right or wrong time to refinance a car loan? Whether you opt for a new or used vehicle, buying a car can be an expensive endeavor. It’s no surprise, then, that the vast majority of cars on the road today are financed with the help…
It can be a bit tricky to refinance an auto loan when you work for yourself.
Many Americans today are enjoying the benefits and freedom that self-employment can bring. The Pew Research Center reports about 16 million Americans work for themselves — that’s 10% of all jobs held in the U.S. Other sources report as many as 25 million self-employed workers, and the trend is still rising .
Yet, the self-managed work style that is growing in popularity can be seen as “risky” to lenders. Why? Proving your income and financial stability to banks, credit unions, and other lenders can be more difficult when you manage your own business or work on a freelance basis. If you’re self-employed, you may have encountered this challenge already.
So, let’s say you want to refinance your existing auto loan to save money on your car payment. Is it still possible to snag a competitive rate if you work for yourself?
Absolutely! The challenge is finding the right lender — and being able to prove your financial stability.
Why Are Self-Employed Borrowers Risky?
There are two things that lenders are looking to do when they approve loans to borrowers: They want to make money, and they want to reduce risk.
By choosing borrowers who present less risk, the lender can rest assured that they will receive their payments in full and on time, without encountering a default.
That’s why self-employed borrowers can pose a challenge to lenders. When a borrower manages their own employment, their income can be seen as unstable. This is especially true if they are a sole proprietor, as opposed to being involved with a corporation.
This perceived risk can be because the amount earned fluctuates from month-to-month, based on factors like commission or how well the business is doing. Or, it could be because these individuals work on a freelance basis and the work is inconsistent.
The income of the self-employed is tied to the success of their business of choice, regardless of its nature. This is much different from someone who is, say, salaried by an established corporation, whose paychecks are predictable and guaranteed.
This isn’t to say that the self-employed can’t be just as financially secure as — if not more secure than — their traditionally-employed peers. It does, however, mean that lenders need to be a bit more particular during the application process before approving a loan in order to mitigate risk.
Qualifying for an Auto Refinance Loan When Self-Employed
If you’re self-employed, there’s no reason you can’t qualify for a great refinance loan… you’ll just need to work a little harder to prove your financial stability. You may need to provide some, or all, of the following to your potential lender.
Proof of income
If you are self-employed, you likely won’t have a W-2 or traditional pay stub to provide to a lender. This is especially true if you are a freelance employee. This can be done by providing proof of income received.
RateGenius Vice President of Lender Management Julie Shinn explains, “Most lenders require proof of income on all self-employed borrowers no matter what their credit tier. If you’re not self-employed, then lenders tend to require proof of income only on borrowers with lower credit scores.”
If you have recurring clients, you can offer copies of payments showing that they’re received on a regular and consistent basis.
Your tax statements will go a long way in proving a history of financial stability. This is demonstrated by copies of annual returns and quarterly tax statements, both state and federal.
“Lenders want to see consistent employment over a two-year period,” says Shinn. “Tax returns provide proof of employment, as well as income levels. They’ll typically want to see two years of tax returns including all schedules .”
By providing past taxes, and recent quarterly payments, you can show a predictable income that will increase lenders’ confidence in your ability to pay back the loan amount.
Your tax returns and other proof of income will show the money that you have coming in. However, your credit report will show how you then manage that money, as well as any current loans or credit cards that you carry with other lenders.
Your credit report will show that you can responsibly handle installment loans and juggle monthly payments on revolving accounts, without making late payments or defaulting. It will also show the credit utilization that you maintain, any outstanding balances that you owe, and further demonstrate your monthly cash flow.
This is especially important if you’re self-employed. A clean credit history may earn you more than just an approval — you can get a lower rate on your loan, too.
Auto Refinance Loan Rate Shopping
Because every lender will have their own guidelines for their loan products, it’s in your best interest (😉) to shop around. This practice is known as “rate shopping.”
Banks and credit unions each have their levels of risk that they’re comfortable with, and while one lending institution may not extend an auto refinance loan offer to you, perhaps another will. Lenders are aware that you’re trying to find the best deal for yourself and looking for a lower interest rate than your current auto loan. This requires applying at various financial institutions.
When rate shopping for your auto refinance loan, multiple credit inquiries can be treated as just one hard inquiry on your credit. The rate shopping period can range from 14 to 45 days, depending on the credit scoring model used by the lender.
For example, a preapproval offer will result in a hard inquiry on your credit report. But if you apply for an auto refinance loan with a handful of lenders over a couple of days, all of those inquires may count as just one and shouldn’t further impact your score.
If you’re not ready for a hard inquiry on your credit, you can opt for a prequalification instead.
Don’t forget: GAP and service contracts
If you want to change your monthly car payments or reduce the interest rate you pay, refinancing your auto loan may be in the cards. But this is also a great opportunity to protect your wallet from costly repairs… or worse.
If you’re self-employed and already have higher monthly expenses than a typical full-time employee, there are two loan products that can save you some serious dough: GAP waivers and vehicle service contracts . As a bonus, auto refinance lenders often offer much more competitive products than those offered by dealerships.
Guaranteed Asset Protection, aka GAP, covers the balance of your loan if your vehicle is declared a total loss. Without GAP, you’ll be on the hook for the remaining loan balance that wasn’t covered by your insurance company, even though you no longer have that vehicle.
A GAP waiver waives that remaining balance for you, so you don’t need to worry about paying that amount in addition to financing a new car.
Here’s how it works: Let’s say your vehicle is totaled, and you still owe $10,000 on that loan. The value of the car is $6,000. Your auto insurance company won’t issue you a check for your loan balance, just the value of $6,000. You still have a $4,000 balance that owe to your lender.
- With GAP: That $4,000 balance is waived, and you’re no longer responsible for it.
- Without GAP: You still owe the $4,000 balance which can be rolled over into the new auto loan for your replacement vehicle, or you can make arrangements to pay that back to your lender.
A RateGenius study found that the average GAP claim amount was over $3,400 — about 132% higher than the average cost of a GAP waiver. So planning ahead can save you money down the road.
Vehicle service contracts
A vehicle service contract (or VSC) can help you save thousands on unexpected repairs, even after your manufacturer’s warranty has expired. Not all VSCs are equal. A high-quality vehicle service contract from a reputatable provider will offer:
- No deductible
- Multiple coverage tiers
- Service at any mechanic or dealership of your choice
- Coverage for older models and higher mileage vehicles
- Affordable prices (which you can include in your refinance loan)
The cost of a service contract depends on the make and model of your vehicle, as well as where you purchase it. You can expect to pay anywhere from a few hundred to a thousand dollars for coverage.
For comparison, the top two vehicle component failures in 2019 were the water pump and a/c compressor, with average claim amounts of $533 and $890 respectively. (Read the top 10 vehicle component failures and average claim amounts here.)
With the costs of basic maintenance and unexpected repairs on the rise, a vehicle service contract can potentially save you hundreds or thousands over the life of the loan. Spend less on your vehicle and more on growing your business.
Refinancing Your Car Loan Is Possible When You’re Self-Employed
There are plenty of benefits to being self-employed. But the joys of setting your own hours and managing a business comes at an expense, especially when applying for loans and lines of credit.
This doesn’t mean that it’s impossible to qualify for something like an auto loan refinance if you work for yourself though. By supplying additional documentation — which will demonstrate a reliable income and responsible payment history — and taking charge of your credit, you can prove to lenders that you’re worthy of a competitive car refinance loan.
You may need to work a little harder to prove your financial stability, but that’s definitely worth the money you’ll save over the life of your auto refinance loan.