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How to Refinance a Car
By Michelle Lambright Black MONEY RESEARCH COLLECTIVE
Refinancing an auto loan has the potential to save you money if you can lock in a lower interest rate on a new loan. Yet before you can enjoy such benefits, you’ll need to figure out how the process works and how to qualify for a better financing deal.
The following guide will walk you through the key points you need to know about how to refinance a car.
Table of Contents
- When should you refinance your car?
- How does refinancing a car work?
- Steps to apply for a car refinance
- Documents needed to refinance your car loan
- Things to know before refinancing a car loan
When should you refinance your car?
There are a few different reasons you might want to refinance an auto loan. Perhaps the most common reason people consider a car refinance is that they want to save money.
If your credit is in better shape than it was in the past, you may be able to secure a lower interest rate on a new auto loan. You might also be able to lock in some potential savings if interest rates are lower than they were when you took out your original loan.
Another reason some people opt to refinance a car is that they want to borrow against the equity in their vehicle. If your car is worth more than the money you owe on it, you might be a candidate for a cash-out auto refinance.
How does refinancing a car work?
Refinancing a car involves taking out a new loan to replace your current one. There are a few different ways to accomplish this goal that depend on the type of auto refinance that interests you.
Traditional auto refinance
A traditional auto loan refinance is the process of getting a new loan to pay off your existing debt. In general, borrowers pursue this option to try to save money—either in the form of a lower interest rate or by reducing their monthly loan payments.
In the case of a lower annual percentage rate (APR), you should spend less money in overall interest. You might also be able to get a lower monthly payment with an auto refinance.
However, you’ll want to be sure to add up the total interest cost, along with any fees, to make sure the new loan will be a better deal in the long run. Tip: An online loan calculator can help you figure out the savings potential (or lack thereof) that a new loan may offer.
Cash-out auto refinance
If you have equity in your car (i.e., you owe less than the vehicle is worth), you might be able to find a lender to offer you a cash-out auto refinance. A cash-out auto refinance lets you borrow more money than your current auto loan balance and use the difference for other expenses.
A cash-out car refinance might offer you a better interest rate than personal loans or a credit card if you need to borrow additional funds. That’s because unlike personal loans and credit cards, which are unsecured, an auto loan is a secured loan – and secured loans generally charge lower interest rates. However, there’s a risk of going upside down (i.e., having negative equity) if the car’s value depreciates faster than you can pay down the principal balance on your new loan.
Steps to apply for a car refinance
If you believe refinancing is the right choice for your situation, here are the steps you’ll need to complete to refinance your current car loan.
1. Check your credit
Before you apply for any form of financing, it’s wise to know where your credit stands. One of the first steps a lender will take when you apply for a loan is to check your credit report and credit score.
Tip: You can claim free copies of your credit reports from all three credit bureaus once every 12 months. Visit AnnualCreditReport.com to download these freebies.
If you have good credit, you’re more likely to qualify for an attractive loan with a lower APR. Credit problems, however, could make it difficult to secure a lower interest rate when you refinance—and a poor credit history might prevent you from qualifying for auto refinancing at all.
2. Learn everything about your current car loan
You’ll want to know the details of your original loan before you attempt to replace it with a new one. Some of the loan information you may want to gather includes the following:
- Your current interest rate
- Your loan balance
- The number of remaining loan payments
- The prepayment penalty (if applicable)
Knowing how your existing loan is set up will put you in a better position to compare alternative financing options. It typically doesn’t make sense to refinance and replace your old loan with a new one unless you’re getting a better deal.
3. Compare lenders and interest rates
Once you have some idea of what a new loan might cost you with different banks and finance companies, you can compare offers to see which is the best deal. It’s always smart to shop around and compare multiple offers when you’re refinancing a loan. Getting several loan offers could save you a sizable amount of money.
The chart below provides a side-by-side comparison of two different APRs on an auto loan.
| Example: $20,000 Auto Loan Refinance with 48-Month Loan Term | ||
| APR | 4.673% | 7.86% |
| Monthly Payment | $458 | $487 |
| Total Interest Cost | $1,966 | $3,373 |
Source: myFICO Loan Savings Calculator
As you can see in the hypothetical scenario above, the difference between a 4.673% interest rate and a 7.86% isn’t that noticeable where your monthly car payment is concerned. Yet over the life of the loan, the car loan with the higher interest rate would cost you an extra $1,407.
4. Get pre-approved
Lenders may advertise a range of rates and terms they offer, but there’s no guarantee that you’ll get the lowest rates and the best terms within those ranges. One way to see more exactly what rates and terms you’ll be offered is to get pre-approved for a refinance loan. The pre-approval process typically involves you filling out a short application with some basic information (i.e., name, address, Social Security number, etc.).
From there, the lender may perform a soft credit inquiry to see if you pre-qualify for financing and what loan rates and loan terms to offer you if you do. Not all lenders offer a pre-approval process. But if it’s available, a pre-approval request can help you gather more information without any credit score damage.
5. Submit an application
If you’re satisfied with the pre-approval offer from a lender (or the lender’s general loan terms if a pre-approval isn’t available), your next step is to start the official application process. You may want to gather key documents in advance (see below) so that you’re prepared if the lender requests this information.
Many lenders have a convenient online application process that’s easy to navigate. Be prepared to share details about your current loan, your income and your employment history, and to authorize a hard inquiry to your credit report.
6. Evaluate loan terms after approval
Getting a loan approval can often feel like a relief—especially after shopping around for the best deal, getting pre-approved, and filling out a full loan application. But approval isn’t the final step in the loan refinancing process.
Once a lender approves your loan application, you should still review the final loan terms it offers you. Make sure the APR, fees, loan amount, and repayment term match up with what you were expecting. Also look for red flags like prepayment penalties or other fees you didn’t anticipate.
7. Finalize the car loan
If you’re happy with the borrowing terms a new lender offers you, you can move forward and finalize your new car loan. Be sure to sign and initial any forms the lender requires, and send in any requested documentation promptly.
You should also verify when your new lender will pay off your original loan. Once the loan balance transfers to the new lender, you should receive a loan discharge document. Keep this in a safe place – it’s proof that your old loan has been repaid in full.
Documents needed to refinance your car loan
A lender may request some of the documents below to verify your identity, income, employment history, and more.
- Payoff amount of current loan
- Driver’s license
- Vehicle registration
- Proof of insurance
- Vehicle mileage
- Vehicle Identification Number (VIN)
- Proof of address (e.g., utility bills, mortgage statements, lease, etc.)
- Copy of Social Security Card
- Proof of income (i.e., tax returns, W-2 or 1099, paystubs)
Things to know before refinancing a car loan
There’s a lot to consider before you refinance a car loan. For example, the condition of your credit score, your payment history on your current loan, and how your loan balance compares to the current market value of the vehicle are all important details that could affect your loan refinancing decision.
You can use the guide above to gather the key information about your existing loan. Then, shop around to see which lenders may be willing to work with you and whether they can offer you a better deal than you have now.
The research process does involve some legwork upfront. But if you can refinance your car with a more attractive loan, the benefits of that new loan could make a positive difference in your financial situation.
Michelle Lambright Black is a nationally recognized credit expert with two decades of experience. Founder of CreditWriter.com, Michelle's work has been published thousands of times by FICO, Experian, Forbes, Bankrate, MarketWatch, Parents, U.S. News & World Report, and many more.