Getting your foot through the door and buying a vehicle lets you build equity with every monthly loan payment. Some borrowers have the minimum credit score and down payment but end up with a high LTV ratio on their auto loan. While these borrowers can get vehicles, they usually get unfavorable loan terms. After paying off more of the principal, some borrowers will use a vehicle refinance to get better auto loan terms. Refinancing can be beneficial for borrowers in many situations, even those with good credit. We will discuss some of the reasons a vehicle refinance may make sense for you and some strategies to make the process seamless.
What is Vehicle Refinancing?
Vehicle refinancing is the process of replacing your current auto loan with a new one. You do not free yourself from the debt, but the terms change. Some consumers who have increased their credit scores want to qualify for a better loan. Other borrowers see refinancing as an opportunity to get extra money or reduce monthly payments.
Reasons to Refinance Your Vehicle
A vehicle refinance can offer many advantages depending on the timing and your current loan. Car owners often refinance for the following reasons.
Get Better Interest Rates
Each loan payment reduces your LTV ratio, which makes you less risky to the lender. Some borrowers also increase their credit scores after getting accepted for their initial loan. A better LTV or credit score can help you secure lower interest rates through a vehicle refinance – as can lower interest rates as set by the Federal Reserve for those who took out loans when rates overall were higher. In addition, lowering your annual percentage rate reduces the monthly loan payments and can save you money in the long run.
Decrease Your Monthly Payment
A lower interest rate will decrease your monthly payment. Borrowers can still decrease their payments even if they cannot secure a better interest rate. Extending the loan’s duration spreads the payments over smaller segments. For example, turning a 2-year loan into a 3-year loan increases the amount of time you are in debt, but the monthly payments become more manageable.
Improve Your Credit Score
If you fall behind on payments or have a thin margin of error, your credit score can eventually take a hit. Most people refinance their auto loans to make them more affordable. Lower monthly payments make it easier to keep up with the car loan and other financial obligations. Getting a new loan will trigger a hard inquiry and drop your score by a few points in the short term. Greater ease in making on-time payments can be well worth the minimal drop and help improve your credit.
Shorten Vehicle Loan Terms
Some borrowers want to become debt-free sooner and have the financial means to make higher monthly payments. These borrowers might turn a 3-year vehicle loan into a 2-year loan. Even though these borrowers pay more money per month, the shorter loan term gives the interest less time to compound, meaning they pay less interest overall.
Factors to Consider Before Refinancing
A refinance can have a long-term impact on your finances. It’s good to keep this information in mind before getting a refinance loan.
Loan Balance and Vehicle Value
If the loan amount exceeds the vehicle’s value, you will also have to pay Gap insurance. It may not be a good idea to refinance your vehicle if you are underwater on the loan.
Credit Score and Financial Situation
A bad credit score will result in a higher APR. It’s better to build your credit score for a while so you can get a lower rate on your loan. However, some people don’t have enough time to wait that long. If you need to reduce your monthly payments to keep up with expenses, a new auto loan may be the right choice for you, even if you end up with a higher interest rate.
Loan Term Adjustments
Your original auto loan will be replaced with a new loan with different terms and conditions. You may want a longer term to minimize your monthly payments, but this approach will keep you in debt longer. Some borrowers may opt for a shorter term to stop making car payments sooner.
Fees and Penalties
Your current auto lender may have a penalty fee if you pay off your loan early. You’ll have to contend with that expense when initiating the refinance. You should also see what fees and penalties your new loan has.
How to Refinance Your Vehicle
Refinancing to change your current rate and terms can be a good option for your finances. Here’s what you need to know about refinancing your loan and receiving approval.
Assess Your Current Loan
The first step to refinancing your vehicle is to review your current loan. You should check your loan’s rate, terms, and fees. Knowing where you currently stand can help you secure a better rate when you shop around.
Researching Refinance Lenders
Banks, credit unions, dealers, and online lending companies can assist with vehicle refinancing. Some lending marketplaces connect you to a network of lenders that streamlines the application process. It’s a good idea to reach out to many lenders and lending marketplaces to ensure you get the best market rates.
Comparing Refinance Offers
You shouldn’t rush to accept the first offer that comes your way. You can get low rates if you apply for multiple loans and see which ones have the best rates and terms. As you apply for refinancing loans, you’ll get a better understanding of what APR you can get.
Applying for a Refinance
Lenders will request personal information like your Social Security Number, ID, and vehicle title. Most online loan applications take a few minutes to complete. Lenders will assess your credit history to determine what to offer.
7 Tips for Vehicle Refinance
Are you considering a refinance for your motorcycle, car, or another vehicle? Keep these tips in mind to ensure you get the best terms and save money.
1. Compare and Shop Around
Borrowers can choose from many auto lenders for their vehicle refinance. You can leave money on the table if you work with the first lender you find. Car owners should compare rates and terms across several financial institutions before selecting a loan.
2. Take Note of Fees and Other Costs
Vehicle refinancing loans are not free. You will have to pay the origination fee, title fee, and other costs. Some lenders also charge an application fee. You can tack these fees onto the backend of your loan, but some lenders set higher fees than others. These smaller expenses can add up in a hurry.
3. Evaluate Your Vehicle’s Loan-to-value Ratio
Lenders use the loan-to-value (LTV) ratio and other metrics to assess your risk. They assess your car’s current value and your loan’s principal. A borrower with a $25,000 car and a $20,000 loan has an 80% LTV ratio. Lenders favor consumers with low LTV ratios. Having a ratio below 100% can help you qualify for lower interest rates. Some borrowers wait to get their LTV ratios well below 100% before applying for a loan refinance.
4. Consider How It Affects Your Credit Score
Asking for a new loan will result in a hard credit check. This credit check will decrease your score by a few points. It’s not a noticeable decline, but if you apply for numerous loans over several months, the hard credit inquiries add up.
5. Gather Documents and Requirements Beforehand
Lenders will have to review several documents before letting you refinance your vehicle. Forgetting these documents during the application process can slow down your refinancing ambitions. You will need the following documents to refinance your car:
- Identify verification (i.e., social security number)
- Documents verifying your education
- Income verification documents (i.e., 2-3 years of tax returns)
- Proof of insurance
- Proof of open claim or resolution to a lien
- A copy of your vehicle registration card
- Some applicants need a co-owner consent form
Gather these documents now so you have them ready when you find an attractive loan offer.
6. Assess Loan Terms
The loan terms determine how much you will pay each month and how long those payments will last. The loan duration, interest rates, and monthly payments are the most important elements of loan terms. A shorter loan term will lower your interest rates but result in higher monthly payments. Some borrowers opt for longer loans to minimize and spread out the monthly payments. Compare loan terms across lenders to ensure you end up with the best deal. Some borrowers should consider how a lender approaches leased car financing.
7. Check Lender’s Reputation and Customer Feedback
When you work with a lender, it’s a long-term relationship. You will pay the lender every month for several years. Checking customer feedback will give you a better idea of what to expect before working with a lender. Online reviews will reveal insights the lenders may not tell you about hidden fees, difficulties, and unfavorable policies.
Lenders will put their best foot forward when promoting their financial products. They will show the 5-star testimonials and steer you away from negative customer feedback. Of course, every lender will have disgruntled customers, as no business is perfect. However, you may want to work with another lender if disgruntled customer reviews are the majority of online feedback.
Is a Vehicle Refinance Right for You?
A vehicle refinance can reduce your monthly payments by spreading them across a longer term. Some people also use a refinance to secure a lower interest rate. While these benefits are useful, it’s essential to keep refinancing costs and interest accumulation in mind.
A refinance typically keeps you in debt longer, and you’ll have to make some extra payments. Your current lender will likely have early payment penalty fees. Furthermore, you’ll have to cover an origination fee for your new loan, which can vary from 1% to 2% of the loan’s balance. You may also have to pay gap insurance if your refinanced loan balance exceeds your vehicle’s value.
A vehicle refinance is only optimal for people who need to free up some space in their budgets. A home refinance or a second mortgage are both better options for homeowners who need extra cash to cover big expenses like vacations and medical bills. People who can work an extra side hustle to make ends meet instead of getting a refinance will be rewarded when they pay off their auto loans. While a refinance can free up a bit of space in your budget, paying off your auto loan will free up a lot more space when that day arrives.
Car owners should assess their credit scores and financial situations before refinancing their auto loans. A higher credit score can make it easier to justify getting a refinance loan.
FAQs About Vehicle Refinance
You should wait at least six months to refinance a car if you need money quickly. However, it’s optimal to want more than a year.
Refinancing can save more than $100 per month, but it will also keep you in debt longer.
The auto loan refinancing process can take up to two weeks, but some lenders respond within a few hours.
