If you’re committed to a vehicle loan or your balloon payment is due shortly, it’s possible to refinance your car. But while refinancing your car loan can potentially lower your interest rate and repayments, you should also consider the following details before deciding if it’s right for you.
How does the refinance car loan process work?
Refinancing a car loan involves taking out a new loan to replace your existing loan. The process of applying for a new loan is similar to when you first financed the car. The main difference is this time, you’re not buying a car – you already have it, and it’s partly paid off.
Sometimes, you can negotiate the loan with your current lender. This makes the process more convenient and faster since they already have your borrower information.
When is the best time to refinance a car loan?
Refinancing can be a good idea in the following instances:
- You have a balloon payment. If you have a balloon payment car loan, your loan will have smaller repayments followed by a large final payment (up to 30% or more of the loan). When the balloon payment is due, you can refinance and pay it off with the new loan.
- Your credit score has improved. Most Canadian lenders charge interest rates based on individual credit scores. If your credit score has improved, you might get a lower rate.
- Your interest rate is too high. Even if you have a bad credit history, it’s best to try and find a loan with a lower rate if your current rate is higher than average.
- You have less debt. If you have managed to pay off some of your debts, it means you now have a lower debt-to-income ratio. This can net you a prime rate.
- You want a cheaper/more affordable loan. Besides a favourable interest rate, the new loan can also come with fewer fees and charges. Plus, extending your term gives you smaller repayments that are easier to budget for.
- You want to pay off the debt faster. You can also refinance to get a shorter term with larger repayments. However, this may be unnecessary since most lenders allow you to make early repayments, though there may be penalties.
- You want to remove a co-signer from your loan. You can refinance a co-signed loan to remove a co-signer, so they’re no longer liable for your debt if you default.
When to avoid refinancing your car loan
Refinancing might not make sense in the following scenarios:
- Your financial situation is not good. Generally, refinancing is not a good idea if your credit score has decreased and you don’t have a reliable source of income. Also, if you are servicing other debts, the lender will likely not approve your application, or they will charge a higher interest rate.
- Your car is not in good condition. Lenders may not want to refinance your debt if your vehicle is worth less than the loan amount or if it’s an older car.
- Your loan term is almost over. If your vehicle is nearly paid off, it may be better to stick with the current loan. Refinancing may extend the loan term, which will cost you more interest and fees. Plus, it means waiting longer to have full ownership of the vehicle.
- You are planning to sell the car soon. In this case, it’s probably more convenient to use the money from the sale to pay off the remaining balance.
- There are no significant savings or benefits. This may be the case if you’re unable to secure a lower interest rate or reduced loan fees.
Steps to refinancing your car
- Review your current loan. Calculate the total cost of your loan to help you decide if refinancing makes financial sense.
- Estimate your car’s value. Refinancing is generally a good idea if the value of your vehicle is equal to – or more than what you owe.
- Check your credit score. Review your credit report and fix errors to boost your credit score and improve the chances of approval.
- Shop around and compare loans. Starting with your current lender, compare auto loans to find the best refinancing rates.
- Use a car loan refinance calculator. An auto loan refinance calculator shows you the estimated monthly repayments for the new loan. This helps you figure out how much you can save by refinancing.
- Make your application. Submit your application along with all the required documentation.
Pros and cons of car loan refinancing
Pros
- Lower interest rate. Whether you’re a prime or subprime borrower, it’s possible to find an auto loan with a lower interest rate that can save you money.
- Affordable payments. Refinancing allows you to switch to a longer repayment period which reduces your monthly payments.
- Customized terms and conditions. Auto refinancing also allows you to opt for a loan that’s a better match for your current circumstances. For instance, you can remove or add a co-signer or choose an option that allows early repayments.
Cons
- Increased interest costs. If you extend your loan term, it means you’ll pay more interest in the long run.
- Prepayment penalties. The cost of closing your old loan account can offset any interest savings.