Car Loan Refinancing: When and How to Lower Your Rate

What is auto loan refinancing?

Auto loan refinancing means taking out a new loan to pay off your existing car loan, typically with a different interest rate or loan term. The new lender pays off your current lender, and you start making payments on the new loan.

Refinancing can lower your monthly payment in two ways: by securing a lower interest rate, or by extending the loan term. However, extending the term may reduce your monthly payment but increase the total interest you pay over the life of the loan.

Sources: Consumer Financial Protection Bureau, RateGenius, LendingTree, Bankrate

When does refinancing make sense?

Refinancing can be a good idea when interest rates have dropped since you took out your original loan, or when your credit score has improved, making you eligible for a lower rate.

It may also make sense if you have dealership-arranged financing that carries a higher rate, since dealers often profit from offering higher rates.

Refinancing might not be worth it if you don't qualify for a lower rate, if you have little time left on your loan, or if you owe more than the car is worth.

• Know your current loan terms: your interest rate, remaining balance, and remaining term.
• Check your credit score. A higher score may unlock better rates.
• Compare offers from multiple lenders to see if you can get a meaningfully lower rate.
• Consider any prepayment penalties on your current loan. Some lenders charge a fee for paying off early; some states prohibit them.

Sources: Bankrate, LendingTree, Experian, Consumer Financial Protection Bureau

Steps to refinance your car loan

Refinancing your auto loan follows a straightforward process. The steps below are based on practical guidance from lenders and consumer finance experts.

1. Check your credit report and score. Your credit score is a major factor in the rate you'll be offered.
2. Determine your car's value and your current loan balance. If you owe more than the car is worth, you may have trouble refinancing.
3. Shop around and compare offers from multiple lenders. Lenders are not required to offer their best rates, so shopping can make a difference.
4. Apply with the lender you choose. When you apply, the lender will do a hard credit inquiry, which can temporarily lower your credit score by a few points. Multiple auto loan inquiries within a 14 to 45 day period are typically counted as one inquiry.
5. Review the loan terms carefully, including the interest rate, term, and any fees.
6. Sign the new loan agreement. The new lender will pay off your old loan, and you'll begin making payments on the new loan.

Sources: InCharge Debt Solutions, Experian, Consumer Financial Protection Bureau, RateGenius

Calculating your break-even point

The break-even point is the moment when your monthly savings from refinancing exceed the total costs of refinancing.

To find your break-even point, add up all the costs of refinancing (for example, any title transfer fees, application fees, or prepayment penalties). Then divide that total by your monthly savings from the new loan. The result is the number of months it will take to recover the costs. After that point, you start saving money.

If you plan to keep the car longer than that, refinancing may be worthwhile. If you plan to sell or pay off the loan sooner, it may not be worth the cost.

Sources: Federal Reserve Board, LendingTree

Impact on your credit score

Refinancing can affect your credit in a few ways. Applying for a new loan triggers a hard inquiry, which may lower your score by a few points (for example, about five points). That impact is usually temporary and your score can rebound within a few months with on-time payments.

Refinancing also opens a new credit account, which lowers the average age of your credit accounts. A shorter credit history can negatively affect your score.

On the positive side, if you keep making on-time payments on the new loan, your credit score may improve over time. And multiple auto loan inquiries within a 14 to 45 day period are generally treated as a single inquiry for scoring purposes, so shopping around won't penalize you multiple times.

Sources: InCharge Debt Solutions, Experian, Consumer Financial Protection Bureau

Refinancing with bad credit

Refinancing with bad credit is possible, but it can be harder. Lenders consider your credit history and score when deciding what rate to offer, and a lower score may mean higher rates or fewer options.

Some lenders have minimum credit score requirements, and some may limit the vehicle age or mileage. For example, some lenders may not refinance a car with over 100,000 miles.

Even with bad credit, you may still improve your situation if your credit has improved since the original loan, or if you can find a lender that works with lower scores. It's wise to compare offers and consider whether the new rate is actually lower than your current one.

Sources: Consumer Financial Protection Bureau, LendingTree, Experian