When Should I Refinance My Car Loan?

With so many car loans, many people wonder if a refinanced car loan is right for them. More than 100 million Americans have a car loan, with an estimated $1.5 trillion of outstanding auto loan debt.

Refinancing your car loan involves taking on a completely new loan and then paying off the balance of your original loan. A refi can benefit you by saving you money in the long term with a better interest rate, shorten or extend the term of your loan to change your monthly payments, or even get some cash out of your car.

However, you may deal with penalty fees for paying off your loan early or end up costing you more money overall. So, it is important for you to know what you want to get out of your refinanced car loan and to pay attention to the details of your refi.

Here are some reasons you might want to refinance your car loan and the benefits and costs of each method.

You Need Lower Monthly Payments

If you are struggling with cash flow problems and need to free up some money to help you pay for monthly expenses, you can refi your car loan to lower your monthly payments.

Be aware that if you lower your monthly payments, this may also extend the length of the loan. This also means you will pay more interest over that longer term, increasing the overall cost of the loan. This may hurt you financially down the road, but you can also increase your payments when you are in a better financial position later.

You Need to Cash Out Equity from Your Car

A cash-out refinancing allows you to borrow additional money against the equity you have built up in your car.

Simply put, equity is the portion of the car that you truly own. As you pay off your loan, you own more of your car over time. Equity is also the difference between the car’s market value and what you owe on the loan. Positive equity means the car’s value is greater than the loan balance.

With the auto market shrinking in recent years, that may have increased the value of the current car you are paying off. So, you might be able to get even more money with a cash-out refi.

Once again, this usually means extending the life of your loan and paying more interest. However, if you need a one-time infusion of cash into your finances, a cash-out refi can be a cheaper option than credit card debt or other loans.

Rates Have Gone Down

Interest rates fluctuate all the time, affecting the overall cost of borrowing money, from mortgages to car loans. So, if you bought a car when interest rates were high, you will save money on your loan when rates drop.

There are fewer drawbacks to refinancing your loan when interest rates drop other than fees, but you may not always have this opportunity. For about two years after 2020, interest rates were nearly at zero and have risen to around 5% in late 2023. So, if you bought your vehicle in the early part of the 2020’s, you probably have an interest rate that is hard to beat.

Your Credit Score Has Gone Up

Though you can’t control interest rates in the broader economy, there is a lot to improve your credit score. When your credit score improves, lenders will see you as a less risky person to loan money to and might give you better rates on your loan.

Increasing your credit score can mean lots of work and financial discipline, but it can save you thousands when you are borrowing money. Read our guide on improving your credit score to learn more.

You Didn’t Get the Best Financing at First

Though dealerships offer you financing when you buy your car, they might not give you the best deal when you drive your car off the lot. Even if you got your loan at your bank or another lender, you might get a better loan by checking with a credit union or other financial institutions for a better rate.

Before you buy you can also get preapproved for an auto loan before you buy a car. This can help you negotiate a better interest rate if you do decide to get financing at the dealership, too.

When Shouldn’t I Refinance My Car Loan?

Refinancing your car loan might not always save you money. Usually, a refi works best towards the beginning of the loan since much of the interest is front-loaded, and you pay that off first before paying off the principal.

Generally, if you are less than two years from paying off your vehicle, there won’t be much of an advantage to refinancing your vehicle. Also, some lenders won’t refi older vehicles (Seven years or more) or cars with a lot of millage (more than 90,000 miles).

Here are some other factors to consider:

Lending fees: A lender may charge you refinancing fees such as origination fees or appraisal fees.

Prepayment penalties: Your original lender may charge you a penalty for paying off the auto loan early. This may be a percentage of the remaining loan balance or perhaps all of the interest of the original loan.

Being underwater: If the value of your car is less than the balance of the loan, then you are considered underwater. Unfortunately, cars depreciate very quickly after they are driven off the lot. If your auto loan is underwater, it can be difficult to find a new lender.

Refinancing your auto loan can be a great way to free up some cash every month, cash out the equity of your loan, or save you money in the long run. But it’s also important to know what your financial goals are, along with the financial risks of getting a new loan for your vehicle.

If you think an auto loan refinance is right for you, you can start the process with GNCU, and our loan experts will help you figure out the best option for your financial health.