When should you refinance your car loan? And when to wait

With the Federal Reserve lowering rates twice in the past several months, it makes sense to consider refinancing your auto loan if you can lower your interest rate and monthly payment. The process is relatively simple and involves swapping your current loan for a new loan with different — and preferably better — terms.

There are other times when it makes sense to refinance your auto loan, even if rates haven’t dropped dramatically. The best time to refinance depends on the market, your finances, the state of your loan and the car itself.

However, refinancing is not always a wise financial move. If interest rates are high or you’re close to paying off your loan, then it may make more sense to stick with your current auto loan. Knowing the ins and outs of when to refinance and when to wait will keep you in the driver’s seat to make the best car refinancing decision.

When should you refinance your car loan?

There are multiple benefits to refinancing and quite a few situations where refinancing makes the most sense. In general, the best time to refinance your car is when you can reduce your monthly payment or interest rate.

When you can get a lower rate

Refinancing is a good move when rates are low. And there’s good news on that front: The Fed has cut rates twice in 2024 following 11 consecutive increases starting in 2022. Although Fed rate cuts don’t directly impact auto loan rates, auto lenders tend to fall gradually in tandem with the cuts.

According to data from Experian, auto loan refinancing rates tend to match used vehicle rates, which currently average 11.74 percent. However, Bankrate’s data shows that the car loan rates for a 48-month loan haven’t changed significantly in months. With inflation finally moderating, it makes sense to keep an eye out for refinancing opportunities.

Assuming a remaining loan balance of $10,000 and a term of four years, this is how refinancing from a 15 percent APR to a 7 percent APR can affect your overall costs:

Your total savings would be about $39 a month — but you would reduce the total interest you pay by $1,865.

When your credit score and DTI have improved

Regardless of the direction of the Fed funds rate, improving your credit score may be enough to get a lower rate. The difference between a bad credit rate and a good credit rate may be more than 10 percent. That could mean major monthly payment and total interest savings.

One way to boost your score quickly is to consolidate your credit card debt. If you’re like more than a third of U.S. credit card users, you may have recently maxed out a credit card, according to data from Bankrate’s Credit Utilization Survey.

Paying off credit card debt has two benefits that could get you a lower rate. First, it reduces your credit utilization ratio, which has a major impact on your credit scores. Second, it reduces your debt-to-income ratio (DTI), which could result in a better rate.

Here are the average interest rates for each credit score, according to Experian’s second-quarter 2024 data:

When you received your initial loan from the dealer

Dealer financing takes many forms. Often, it will be either captive financing, which is offered through a sister company to the auto manufacturer, or through a third party finance company.

In the third quarter of 2024, captive financing companies and buy here, pay here dealerships accounted for nearly 39 percent of all auto financing, according to data from Experian.

Because dealers tend to offer loans at a markup to make a profit, you may have a much higher rate than you would if you’d shopped at a bank or credit union. Refinancing with a different lender could help you secure a lower, more competitive rate.

When you’re struggling to keep up with payments

If your income has dropped or your expenses have increased since you took out your auto loan, it may be time to explore refinancing. You may be able to get a more affordable car payment by extending your loan term — even without a lower interest rate. Many lenders offer terms as long as 84 months, which could save you money in your monthly budget.

One warning: You’ll typically pay more total interest if you extend your term. Refinancing to a longer term can be a good short-term solution, but consider making principal-only payments to reduce your overall cost.

When you have positive equity in your car

Lenders view positive equity as a big plus when refinancing. The bigger the difference between what you owe and your car’s worth, the more the lender stands to make if you default on your loan. Since the lender takes less risk, you may get a lower interest rate.

You can estimate your car’s value on websites like Edmunds or Kelley Blue Book. Once you have an estimate, divide the number by your outstanding balance to determine if you have positive equity.

For example, if your car’s value is $20,000 and your remaining balance is $15,000, your loan-to-value ratio is 75 percent. That means you have 25 percent equity in your car.

Bankrate insight

You can refinance your car loan multiple times, but it may be difficult if you have a low balance or don’t have much time left on your loan.

When to avoid refinancing your car

Refinancing a car loan isn’t always the right choice, especially if it won’t improve your financial situation — or may even worsen it. In this case, refinancing and paying off your car loan early may not be the best decision.

When you’re close to paying off your loan

If you are nearing the end of your loan term, refinancing may not save you money. Instead, you should stick with it unless you desperately need to extend your loan term to reduce your monthly payment.

In addition, most lenders have a minimum loan term of 24 or 36 months. If you have less than that remaining on your car loan, you may have to extend your term. While a longer loan term will mean a lower monthly payment, you will also pay more interest.

Your remaining loan balance also matters. Lenders set a minimum balance for refinancing, typically between $3,000 to $7,500. If you owe less than the lender’s minimum balance, it is unlikely that you will qualify. And while cash-out refinancing does exist, it can be hard to find a lender that offers it.

2. When you owe more than the car is worth

Because cars depreciate over time, the longer you have an auto loan, the more likely you owe more on the car than it is worth. This is also called being “underwater” or upside down — and it will make it hard to refinance. Lenders know they won’t be able to recoup the loan’s full amount if you default while upside-down, so they generally won’t extend any new credit secured by the car.

This is the opposite of having positive equity in your car. So while you may be able to refinance, you should determine if it will actually save you money. If it won’t — or you just break even — refinancing may not be your best option.

Bankrate insight

Don’t refinance a vehicle you can’t afford. Reassess your budget to see if you can make any cuts, or consider trading in the car for a cheaper vehicle with a lower payment.

When interest rates are rising

If you took out your auto loan when rates were low, it may be difficult to find a better rate. In fact, you may pay more if you refinance in a market where interest rates are on the rise. Fortunately, the recent leveling off of inflation has the potential for lower auto loan rates in the future.

However, if you’re struggling to make payments because of the short repayment term you chose, a car refinance may still make sense. If you have to choose between missing a payment and extending your loan term at a higher rate, choosing the longer-term refinance could save your credit score and prevent a future car repossession.

When you don’t meet the lender’s refinance requirements

Lenders determine eligibility differently. Before you refinance, check the requirements for you, your vehicle and your current loan. Most lenders will require:

• A regular source of income, a low debt-to-income ratio and good credit.
• Proof of residence, such as a lease agreement, mortgage statement or utility bill.
• Your car’s make, model, year, vehicle identification number (VIN) and mileage to evaluate your car’s worth.
• Your loan’s current balance, monthly payment and payoff amount to determine if you meet its minimum loan requirements.

Most lenders will not consider refinancing unless your car is less than 10 years old. Your mileage should also not exceed 100,000 or 150,000 miles, depending on the lender.

Bankrate tip

You can find specific refinancing requirements on lenders’ websites or Bankrate’s auto loan lender reviews.

When fees will outweigh your savings

Before refinancing, consider whether fees will impact your overall savings. If your auto loan has a prepayment penalty, paying off your loan early can cost you. You will need to weigh the amount you save in interest over the cost of the prepayment penalty to determine if refinancing will actually save money.

Some lenders may also charge a substantial origination fee when you refinance. Like a prepayment penalty, it can eat into the potential savings and make refinancing more of a hassle than just sticking with your current lender.

Watch out for other fees charged by both your old and new lender. Transaction fees, administrative fees or processing costs may reduce the benefit of refinancing. You may be able to negotiate these fees, but there are also some states that will charge you state registration and title transfer fees for re-registering your car after refinancing.

Alternatives to refinancing

If refinancing is too expensive or just isn’t worth it, you still have options.

• Request a car loan modification. If you’re behind on payment, ask your lender about a car loan modification. You may be able to extend your term or reduce your rate when facing short-term financial problems.
• Swap to a less expensive vehicle. You may want to consider a less expensive vehicle to relieve some of the financial burden. This can be either trading in your car for a less expensive model or selling your car privately and buying a less expensive vehicle.
• Consider a lease. Switching over to leasing could also help you save on monthly payments, but it may cost more over the long term. This is because leasing still requires a down payment, as well as interest and fees. On top of the usual costs, you won’t own the vehicle at the end of the lease period. You can certainly choose to buy it — but that will come with additional costs.
• Pay your loan off with a personal loan. If your car is too old for refinancing, consider a personal loan. Since these loans are often unsecured, they don’t require any vetting by the lender, and many lenders are able to approve loans within a day of applying.

Is there a good time of year to refinance?

While it might make sense to take advantage of special incentives for new car loans at different times of the year, those perks don’t typically apply to auto loans you refinance. Your best bet is to keep track of lenders on a regular basis, especially if rates are dropping.

In the meantime, take extra steps to boost your credit, like keeping your credit card balances low or paying them off. Your financial situation should determine when you’re ready to refinance — ideally, it should be after you have improved your credit and while average rates are on the decline.

Bottom line

The primary reason to consider refinancing is to lower your rate or monthly payment. Try to apply the savings to your balance for an even faster pay off.

Get the refinancing process started by checking your credit score and prequalify with at least three lenders to see what interest rates you qualify for without hurting your credit score. Crunch the numbers to be sure refinancing is aligned with your overall financial goals.