Auto Loan 101: What is Auto Refinancing?

Personal Finance,

Disclaimer: Upstart is not a financial advisor, the following content is for informational purposes only.

Picture this: you financed a car about a year ago with a 5 percent interest rate and a monthly payment of $550. Due to life-changing events, you want to lower those monthly payments and decrease your interest rate, but don’t know where to start. On average, Americans owe more than $1.2 trillion on auto loans, making up for approximately 10 percent of the overall consumer debt. With the unemployment rate at a staggering 13.3 percent in May, many Americans are researching ways to save money where they can, including refinancing their auto loans to reduce their monthly payment. 

While auto refinancing sounds like a good idea off the bat, most people don’t exactly know what it entails or what its long term effects are. If you’re looking to save some money, refinancing a high interest rate loan to one with a lower rate will save you money over time. If your monthly payments are too expensive, refinancing to an auto loan with a longer loan term will get you lower monthly payments, but may cost you more money over the life of the loan. Refinancing an auto loan typically comes with extra fees and can potentially damage your credit score. Bottom line, refinancing an auto loan is not always a guaranteed “money saver.”

At Upstart, we are here to help answer these crucial auto refinancing questions to ensure you’re making the most informed decision possible. In this post, we’ll explain when you should consider refinancing your car and the top things to think about when considering refinancing. We will also outline when you shouldn’t refinance your car, even when you think it may help you in the long run.

What is auto loan refinancing?

Refinancing a car loan involves replacing your existing car loan with a new loan at a different interest rate. These loans are secured against a car and paid off in fixed monthly payments over an extended period of time, typically over the course of several years.

When is the best time to consider refinancing?

One factor when considering a refinance is interest rates. Interest rates change regularly, so there’s a possibility that rates have fallen since you took out your original auto loan. Even a drop of 2 or 3 percentage points may result in significant savings over the life of your loan. 

Another factor when considering refinancing is your finances. If your financial situation has improved, lenders can look at your debt-to-income ratio to determine if it’s in good health and at a lowered ratio deemed worthy of a lower rate. If it is, your lender is much more likely to reduce your interest rate, which will save you money over time. If you’re having trouble keeping up with your monthly payments each month because your first auto loan was a bad deal, refinancing is a good alternative. One caveat to keep in mind: more time spent paying back your loan is also more time spent paying interest. In general, you’ll pay more interest overall if you have a loan with a longer term. 

When should I hold off on refinancing my car loan?

If you’re looking to increase or maintain your credit score because you want to apply for a mortgage or get a new credit card, refinancing can negatively impact your score. You’re also more likely to incur fees like lienholder and state re-registration fees. They’re not too costly, but it’s smart to ensure these fees don’t outweigh the current fees you’re already paying for your auto loan. 

Some lenders give out prepayment penalties for paying off your current auto loan earlier than planned with your refinance loan, so you may have to pay some additional interest in addition to the principal. If you’ve already paid off most of your car loan or your car has an exorbitant amount of miles, it’s best to hold off on refinancing and continue paying off your car as normal. The longer you wait to refinance, the less you may be able to save on interest and the less desirable your car is to a lender.

What are some tips I should consider when refinancing?

If you still think it’s time to refinance, here are a few tips to consider. Make sure you fully understand how an auto refinance works and know approximately how much money you can save. When you apply for a refinance, there are many factors a lender will consider to determine your rate, including your credit score and profile, the make, model, trim, and mileage of your car. Additionally, lenders will look at the value of your vehicle relative to how much you owe on the vehicle—your loan-to-value ratio—and how many payments you have left on your current loan to determine if refinancing is worthwhile for both parties. When debating refinancing your car, you need to ensure your car hasn’t depreciated in value too much, your current loan is fairly recent, and your loan-to-value ratio is low.

Once you get your rate, you should evaluate if the rate or terms offered meet your financial goals. You should also make sure that you understand any additional fees or prepayment penalties so you can understand the total cost of the loans you’re comparing.

If all those boxes are checked off, you’re ready to make the next step toward refinancing your car. 

Upstart Auto Refinance loans are currently only available to residents of Florida. Loans made by Upstart Network, Inc., (Florida Consumer Finance Lending License# CF9901205)

* When you check your rate, we check your credit report. This initial (soft) inquiry will not affect your credit score. If you accept your rate and proceed with your application, we do another (hard) credit inquiry that will impact your credit score. If you take out a loan, repayment information will be reported to the credit bureaus.