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.
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, if disgruntled customer reviews are the majority of online feedback, you may want to work with another lender.
