Auto loans are notoriously expensive, but sometimes they’re a necessary part of getting you back on the road. If the opportunity arises to save some money on your auto loan, you should probably take it. Americans who refinance their cars save on average around $950 a year, and several thousand over the life of their loan.
Interest rates are still low at the start of 2022 so it’s worth looking into refinancing your auto loan. Here’s what you should know before getting started.
How to Qualify for an Auto Loan Refinance
Like with other loan products, you must have a good credit score and stable income to qualify for auto loan refinancing. Most lenders require a score of 781 or more to qualify for the best interest rates, although those with scores between 661 and 780 will also qualify for low interest rates.
An auto loan is a secured loan, meaning that the car’s value is used as collateral for the lender. The car must have enough value to qualify for a loan. Most lenders require that the loan-to-value (LTV) ratio is 130% or less. To calculate the LTV for your car, divide the remaining loan balance by the current value. To find the car’s value, use sites like Kelley Blue Book or Edmunds.
For example, if you owe $8,000 on a car with a current value of $7,000, then the LTV is 114%. In this case, you would likely qualify for a refinance with several lenders. But if you owe $8,000 on a car with a current value of $4,000, the LTV is 200% and too high to qualify for refinancing.
Most lenders also only accept auto loans with remaining loan balances between $10,000 and $55,000. If the loan balance falls outside of those parameters, it may be very difficult or almost impossible to find a lender. The car must also be less than 12 years old and have less than 125,000 miles to qualify.
How to Find the Best Rates
Once you determine that the car and auto loan are eligible for refinancing, it’s time to find a lender. To find a lender with the lowest interest rate, make sure to compare multiple companies, including both traditional and online banks, as well as local and national credit unions.
Pro-tip: Easily compare lenders in the Mint Auto Loan Marketplace.
You should also collect rates from lenders you already have a relationship with, like the bank where you currently have a checking account or mortgage. They often offer better deals for existing customers.
Once you receive offers from lenders, you can try to negotiate a better rate by pitting competitors against each other. For example, if Lender A offers a 4% interest rate with a five-year term and Lender B offers a 3.75% interest rate with a five-year term, you can go back to Lender A and ask them to beat the more enticing offer.
When you apply to refinance an auto loan, lenders may offer you a variety of interest rates with different terms. In general, shorter terms come with lower interest rates and longer terms come with higher interest rates.
Before selecting a repayment term, make sure you can comfortably afford the monthly payment. For instance, don’t choose a four-year term instead of a five-year term if the payment on a four-year loan barely leaves room for your other bills.
Look for a lender without a prepayment penalty, which is a penalty that is charged if you pay off the loan early. Most lenders don’t charge one, so it should be easy enough to find.
When You Should Refinance an Auto Loan
Figuring out when to refinance your car loan can be tricky. If you meet one of the following criteria, it may be a good idea to consider refinancing:
When your credit score has improved
Lenders use your credit score to determine the interest rate you qualify for. Borrowers with poor credit will receive higher interest rates, while borrowers with good credit will receive lower interest rates.
If you had bad or average credit when you initially took out the auto loan and your credit has since improved, you may qualify for a better rate now.
Your income also plays a role in the interest rate you receive. If your income has increased significantly, it’s probably wise to consider refinancing. Also, if you can add a co-signer or co-borrower to the loan who also has good credit, you may qualify for a lower rate.
When the car’s value has increased
Most of the time, a car is a depreciating asset. This means that the value goes down over time. In contrast, houses are usually appreciating assets whose value rises over time.
Because the Covid-19 pandemic has impacted supply chains for vehicles, used car values are higher than normal right now. This means it may be a good time to refinance your car loan, because the LTV will be better than normal.
When there’s no prepayment penalty
Some auto loans come with a prepayment penalty, where the lender charges a fee if you repay the loan early or refinance. The fee may be a set dollar amount or a percentage of the remaining loan balance.
Zina Kumok is a freelance writer specializing in personal finance. A former reporter, she has covered murder trials, the Final Four and everything in between. She has been featured in Lifehacker, DailyWorth and Time. Read about how she paid off $28,000 worth of student loans in three years at Conscious Coins.