Understanding Costs of Refinancing a Car

Do you want a more affordable monthly payment on your car loan? Or maybe your interest rate was high when you initially got the loan, and you believe there are better options out there? Either way, you can refinance your car loan to lower your payment or get more competitive loan terms. But refinancing comes at a cost, and you should run the numbers to determine if it’s a wise financial decision for you.

Is Car Refinancing a Good Option for You?

Refinancing isn’t for everyone. It’s a big decision that depends on your finances and a few factors that are out of your control. Refinancing your car loan may be a good idea in these scenarios:

• Interest Rates Have Gone Down: If market conditions have changed since you got your current loan, there’s a chance interest rates have gone down. To illustrate, assume you took out a $35,000, 48-month auto loan with a 6 percent interest rate. Your original monthly payment would be $822. Now, suppose you refinance into a new loan with the same repayment period once the balance reaches $27,000 to get a 3 percent interest rate. The monthly payment amount would drop to $619.76, which equates to a cost savings of $202.24 per month. 
• You Have Improved Your Credit Score: It’s also possible that your interest rate could be lower if your credit score has improved. A higher credit score makes you less risky to lenders, and this setup can provide you with a lower rate. You should also examine how loan rates have changed. A significant increase in your credit score may offset higher interest rates.
• You Want to Switch Lenders: If your current lender isn’t quite working for you, refinancing is a simple way to take your business elsewhere. You can refinance with the same lender, but you may find better terms with another financial institution, credit union, or online lender.
• You want to modify who’s on the loan: Some lenders allow you to remove or add a co-borrower to your car loan when you refinance. Borrowers can also remove co-signers from their loans using this method.
• You Want Lower Monthly Payments: Your new lender will likely extend your current loan term to lower the monthly payment when you refinance. The extended loan term spreads your monthly payments across more intervals, allowing you to secure more room in your monthly budget. While the new amount could work for your budget, the loan could cost you more in interest over time unless you snag a lower interest rate and go for a shorter term.
• You Want to Get Out of Debt Sooner: It’s possible to refinance your loan to shorten its duration or make some of the payment upfront. These strategies increase your monthly payment but also get you out of debt sooner. Some people want the ease of knowing they will have one less financial obligation in their monthly budget.

Typical Car Refinancing Costs

Before you apply for auto loan refinancing, there are some costs to consider. These costs can wipe out your profits if you are not careful. But, on the other hand, a refinance can put you in the red if it has too many costs:

Early Termination Fee

Some lenders will penalize you for paying off your car loan early, even if it’s through refinancing. This expense is also known as the prepayment penalty.

Transaction Fee

You could incur transaction fees from your old and new lenders when you refinance your auto loan. 

Registration Fee

Depending on what state you currently live in, you may have to register your vehicle again when refinancing your ride.

Title Transfer Fee

You could also be hit with a title transfer fee to give the new lender possession of the title.

When It’s Not a Good Idea to Get a Car Refinance

Every financial product has pros and cons, and it’s not a good idea to only be aware of one side of the argument. However, understanding the disadvantages of car refinancing can help you weigh if this loan is a good idea for you. Here are some concerns that may show up:

• Higher costs: A refinance can save you money, but those extra costs can wipe out your profits. You should calculate the return from a refinance and deduct the expenses to determine if you still break even or make a profit. Car refinances are typically better when you still have a high balance. That’s more money subject to the lower interest rate.
• More interest payments: If you extend the life of your loan, you will make additional interest payments. These payments do not get you closer to owning your car debt-free. If you want to get out of debt sooner, it may be better to stick with your current loan. Borrowers with higher incomes may consider shortening the loan’s duration to speed up the debt repayment process.
• The original loan has good terms: Some borrowers had good credit scores and secured auto loans when interest rates were at their historical lows. It can take a long time for interest rates to return to those levels if they ever do. It may be worth holding onto the original loan to keep the low-interest rate.
• The car is worth less than the loan: A new lender may require you to pay gap insurance to compensate for this difference. That will increase your total costs and can also result in a higher interest rate.
• Your car is used and has a lot of miles: Used cars, especially vehicles with many miles, are riskier for lenders. This translates into higher interest rates and lower approval odds for borrowers.
• Your remaining balance is very little: Smaller balances are easier to pay off, and it’s also more difficult to profit from a refinance on a smaller loan.

Frequently Asked Questions