Refinancing Your Car Loan
This is a quick and painless way to shave dollars off your monthly bill and hundreds of dollars off your total interest paid.
You may not be aware of this, it's not a secret, but it's also not all that common, but you can refinance your car loan and capture today's historically low interest rates.
And unlike a mortgage, the process is easy as pie. It takes a few hours, sometimes less, and costs you under $100. You pay only for the title transfer.
So why aren't more people doing it? One reason might be that the difference in monthly payment isn't as significant as it is with a mortgage refi, because the amount of money borrowed is much less and car loans are shorter term. But with interest rates on used cars hovering around 4%, it's still worth looking into, particularly if you’ve seen a significant improvement in your credit since you took out your original loan or you didn't shop around for financing the first time.
Let's say you took out a five-year, $20,000 loan two years ago. Your interest rate was 12%, which put your monthly payment at about $445. If you were to refinance the remaining amount; about $13,400 into a three-year loan now, a two percent reduction in interest would drop your payment by about $13 a month. You'd save over $400 over the life of the loan, which is probably not enough to get you excited. But if you're able to drop your interest rate to today & current 36-month used car average, 4.63%, you'd save close to $46 a month. Doesn't sound like much more, but it adds up to a savings of $1,656 over the remainder of the loan.
I'm guessing that got your wheels turning. Here's how you do the deal:
- Understand the back story. There are a couple of reasons why your rate might be higher than it should be. The first we already talked about: your credit score. The second, though, is that if you originally financed your car through a dealer, the rate may have been inflated. Dealers don't directly finance, they re-sell financing from other companies. They don't make a ton of money on the actual sale of the vehicle, so they're making money when they finance it and when they service it. I know it sounds like a scam & it is. But it is up to you to do your due diligence when you finance a car. That means you should have walked in there with your credit report and score in hand, along with pre-approval from at least one bank.
- So now you know for next time. What about now? Get on the computer and do a little research. MyFico.com, the consumer website of Fair Isaac, the company that generates credit scores, has a handy tool that will tell you the average mortgage, home equity and auto loan interest rates for a range of credit scores. It's updated regularly, and you can input your loan amount to get an even closer estimate. As of 11/30/11, it says a FICO score between 720 & 850 should qualify for around 4.138% on a 36-month, $25,000 loan, while a score between 620 & 659 will get you 11.168%. Of course, you need to know your credit score to use this tool. You can purchase your FICO score from that same site for $19.95, or pull a free version from CreditKarma.com. It's not a FICO score, but it's a close approximation.
- Find your lender. Once you're ready to refinance – and for the record, you can do this immediately after you took out the original loan if you think you were short-changed – you should price hunt. Not all lenders who offer auto loans will also offer refinancing. Capital One is one of the biggest players in the game, but you can also try your bank or local credit union.
- Don't stretch your payment term. Extending the life of your loan may lower your monthly payments, but it will cost you more in interest over time, even if you're able to lower your interest rate. Your new loan should be no longer than what was remaining on the original loan.
Article was written by Jean Chatzky, personal finance expert, best-selling author, and Editor In Chief at SavvyMoney and provided by SavvyMoney®.