So, you have a car, you love it, but the interest rate... isn't so hot. You're probably wondering whether refinancing could help and, if so, when you can refinance.
First, let's talk about vehicle refinancing.
When you refinance a car, you are paying off your existing loan with a new loan that ideally has better terms. Just as you are able to obtain a vehicle loan whenever you would like, you are also able to refinance a vehicle loan whenever you would like. But there are many factors to consider when trying to determine the best time to refinance a car and whether or not it makes sense for you right now.
Let's take a look.
When can you refinance a car, and when is the best time to refinance?
There are many factors to consider when it comes to refinancing. Here are some things to think about when determining if refinancing is a good idea for you right now.
- Your Existing Loan
First and foremost, it's important to look at the terms of your existing auto loan.
Sometimes, lenders will have prepayment penalties attached to the loan, so it is important to know what the penalties will be if you choose to refinance. If there are prepayment penalties, be sure to do the math to determine if the savings of refinancing will outweigh the downside.
When determining the best time to refinance a car, it depends heavily on how long you have had your original loan and how many payments are remaining. Let's take a closer look at that.
It’s the beginning of your auto loan
While you can technically refinance immediately after you get your initial loan, it is generally better to wait a bit before refinancing your car.
60-90 Days: This is the amount of time it typically takes for the title on your car to transfer. You need to wait until all the paperwork is finalized to refinance, so it's actually unlikely you'd even be able to refinance in this first period of time.
Up to six months: It takes some time for your credit score to bounce back after the hard inquiry from your first loan. If you have fantastic credit, this might not be an issue. But, typically, waiting at least six months will yield more beneficial refinancing options. If you are a first time car loan borrower, it is recommended that you wait a year before refinancing your car. This will prove an on-time payment history and make you a more desirable candidate and qualify you for better loan terms and rates.
It’s towards the end of your auto loan
To talk about why this matters, we need to get into the nitty-gritty of loans for a moment.
First, how does interest on a loan work? Through amortization, the amount of interest you pay gradually decreases over the life of the loan. This means in the beginning of the loan, you are paying off more interest than towards the end of the loan. Let’s look at how car loans are constructed and how car payment amortization works.
Car loans accrue simple interest. This means that if you take out a car loan for $20,000 at 5% interest with a 48 month payment, you will pay back $2,108.12 in interest, with monthly payments of $460.59 for the next four years.
However, car loans are amortized and “front-loaded”, meaning that, in the beginning, your payments aren’t split evenly between your interest and your principal. The amortization schedule below shows how your monthly payments are split up for the first six months of your loan.
Let's look, for example, at a $20,000 loan at 5% interest over 48 months.
Principal Amount: $20,000.00
Monthly Interest Payment: $83.33
Monthly Principal Payment: $377.25
Ending Balance: $19,622.75
Principal Amount: $19,622.75
Monthly Interest Payment: $81.76
Monthly Principal Payment: $378.82
Ending Balance: $19,243.92
Principal Amount: $19,243.92
Monthly Interest Payment: $80.18
Monthly Principal Payment: $380.40
Ending Balance: $18,863.52
Principal Amount: $18,863.52
Monthly Interest Payment: $78.60
Monthly Principal Payment: $381.99
Ending Balance: $18,481.53
Principal Amount: $18,481.53
Monthly Interest Payment: $77.01
Monthly Principal Payment: $383.58
Ending Balance: $18,097.95
Principal Amount: $18,097.95
Monthly Interest Payment: $75.41
Monthly Principal Payment: $385.18
Ending Balance: $17,712.78
As you can see, in the earlier months you are paying more in interest than you are later on. Based on this amortization, you can see the total yearly amount paid in interest.
Year 1 - $894.80
Year 2 - $657.79
Year 3 - $408.68
Year 4 - $146.83
The majority of your interest is paid in the first two to three years that you have your loan. That means that the longer you wait to refinance, the less beneficial it will be to do so. This is because one of the major benefits of refinancing is less paid in interest over time, but if your interest is mostly paid off, you won't get to see that benefit.
Current Interest Rates
When deciding whether now is a good time to refinance a car loan, look at the current interest rates being offered. Are they better than your original interest rate? Depending on the size of your loan, even a .5 % difference can make a huge difference in the total amount you will be paying.
Your Current Credit Score
Check your credit score using one (or all of the) of the three major bureaus: Equifax, Experian, and TransUnion. Is your credit score better than it was when you initially applied for a car loan? If so, now might be a good time to refinance.
On word to the wise: Refinancing will result in another hard inquiry on your credit report, which will negatively affect your score for about a year. It may also lower the average age of your accounts, which can negatively affect your credit score. So, if you need a high credit score for another reason, like applying for a new mortgage or taking out a new lease on an apartment, consider this in your decision to refinance your car.
However, there's no hard inquiry involved in getting a quote, so if you're not sure whether the savings will be enough to make a difference, you can always get a quick and easy quote to help make your decision.
Your Current Financial Situation
If you need a little more breathing room every month in your budget, now might be a good time to refinance. By reducing your interest rate or lengthening the payment period, you can reduce your monthly payments. And, for those who need a break from their car loan, refinancing can also give you a few months off from payments.
On the flip side, if you would like to pay off your loan earlier, refinancing to a lower rate and shortening your payment period will save you money in the long run.
Depending on your current loan, you may even be able to pay less monthly and less in interest over time!
When It Doesn’t Make Sense to Refinance
There are times when refinancing will not be beneficial to you. If any of the following apply to you, it might not be the best time to refinance your car:
- Your credit score has decreased. You will most likely not find a lender to give you a better rate, unless your current loan is at a really bad rate.
- Your vehicle has a lot of miles on it. Most lenders have a minimum loan amount and if the car has depreciated in value significantly, it may not be worth your while.
- Your loan is “upside-down”. If you owe more on your vehicle than it’s worth, you may struggle find a lender that will be willing to refinance at a good rate.
All that said, if you're on the fence, it can't hurt to try – getting a quote doesn't require a credit check and can give you an idea of whether or not you should refinance in just a few clicks.
And that's everything you need to know about when you can refinance
While there are few limitations on when you can refinance, you can use this tips to time your refinance correctly to get the best possible deal. In order to find the best time to refinance your car, take a look at your current loan’s terms and payment period as well as your personal finances.
Depending where you are in your repayment schedule, refinancing could save you a bundle. At Auto Approve, we help you find the best refinancing options for your situation. If you’re interested in refinancing, use our quote tool and we can help you find you your best possible savings to put more money back in your pocket.