How to Refinance a Car Loan

Is your car loan payment compromising your finances each month? Are you paying more in interest than you think is fair? You might not be stuck with your current loan for the entire term. Depending on your situation, you might be able to refinance.

In this article, we’ll take a look at how to refinance a car loan and how to decide whether refinancing is the best course of action for your situation.

How to refinance a car loan

When you refinance a car loan, you replace your existing car loan with a new one. Here’s a quick overview of how it works:

• You get a loan with better terms than your current one
• You use the funds from that loan to pay off your existing car loan
• You start making payments toward the new loan instead

Getting a loan with better terms is easier said than done. If you’re interested in refinancing, these steps can help guide you through the process:

Check your current loan terms

The point of refinancing a car loan is to get a loan with better terms than your current one. So before you start shopping around for alternatives, you should understand the terms of your current loan. These are some of the most important terms to find in your loan document:

• Your interest rate
• Your monthly payment
• The length of the loan term

It’s also a good idea to use an online loan calculator to find out how much you’ll pay in interest over the remainder of your loan. That way, you can use the calculator to easily compare your refinancing options to your current loan.

Check your credit score

You should also take a look at your credit score and credit report. If your credit score has improved by a significant amount (usually around 70-100 points) since you got your car loan, you have a decent chance of getting a better rate.

If your credit score has stayed the same or decreased, this might not be the best time to refinance. Unless interest rates have dramatically fallen across the board, you probably won’t qualify for better loan terms. And if your credit score has actually decreased, you might only be approved for loans with less favorable terms than your current loan.

It’s also important to review your credit report for any errors. Incorrect information could unfairly bring your score down. If you see anything inaccurate, dispute it with the credit bureaus and wait for your report to update before applying for refinancing.

Shop around with multiple lenders

Before you commit to any particular lender for refinancing, it’s a good idea to get rates from a few different lenders. Most lenders will allow you to get prequalified for a loan. That means they do a soft credit check (which doesn’t impact your credit) and offer you specific loan terms based on that.

It’s worth taking the time to get pre-qualified with a few lenders so you can compare interest rates, monthly payments, and other loan terms. Once you’ve chosen the best option, you can send in your application.

Submit your application

Even after you’ve been pre-qualified, you’ll need to officially apply with the lender you’ve chosen. As part of the application process, the lender will probably do a hard credit check. This may cause a small, temporary decline in your credit score.

Close on your new loan

As long as the lender approves your application, you’ll just need to sign your closing documents before receiving your funds. From there, you can use those funds to pay your current car loan in full.

When does it make sense to refinance a car loan?

Under the right circumstances, refinancing a car loan can be a smart decision. These are a few scenarios where refinancing may make sense:

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Your credit score has improved

Your credit score isn’t the only factor influencing the interest rate of your auto loan, but it is an important one. The higher your credit score, the less risk you pose to the lender, and the lower your rate is likely to be.

If you’ve been working on your credit and your score has increased significantly since you took out the loan, refinancing could potentially save you money. 

You need to remove a cosigner

When someone cosigns a loan for you, they’re saying that they’ll take over payments if you stop making them. Removing a cosigner is often difficult or impossible. If your current car loan has a cosigner you want to remove, the best way to do that is probably by refinancing the loan in your name only.

Interest rates have dropped

Sometimes, shifts in the market can lead to significant changes in interest rates across the board. Most car loans are fixed-rate loans, meaning that the interest rate you have when you take out the loan is locked in for the duration.

If interest rates rise, it likely makes sense to keep your existing loan. However, if interest rates drop significantly, refinancing might be able to save you hundreds or thousands of dollars over the life of your loan.

How refinancing a car loan affects your credit

In many cases, refinancing a car loan has a fairly small impact on your credit. The hard inquiry from when the new lender checks your credit can cause a small, temporary drop in your score. That drop is usually less than five points.

The new loan also lowers the average age of all of your credit accounts, which can cause another slight score reduction.

However, depending on your circumstances, refinancing your car loan can lead to opportunities to significantly improve your score. For example, if you save a significant amount and use that money to pay down credit card debt, you might see a major boost.

Conclusion

Refinancing a car loan makes sense when something has changed since you signed, be it your credit profile, market rates, or a cosigner you need to remove.

Start by pulling your current loan terms and your credit report, then get pre-qualified with a few lenders using soft checks before you formally apply. If your score hasn't moved much and rates haven't dropped, waiting is generally the better call.

The credit impact itself is minor, usually a small temporary dip from the hard inquiry and the lower average account age.

Kikoff gives eligible users free dispute tools and access to a Kikoff Credit Account with no hard credit check to sign up, with monthly payments reported to all three credit bureaus.

Build credit with Kikoff and put yourself in position for better terms.