Pros and cons of refinancing a car: Is it right for you?

Financing a car can be expensive. Monthly payments on cars have soared. As of late 2023, the average was $532 for used vehicles and $738 if you buy new, according to Experian.

One solution is to refinance your car loan. If you can secure a lower auto loan refinance rate, you could lower your payments and save on interest.

But refinancing is not without risk and could even increase your costs. So, it’s best to consider the benefits and drawbacks of refinancing and assess your financial situation to determine if it’s a smart move.

Pros and cons of refinancing a car loan

The benefits of refinancing your current auto loan center around saving money. You may also be able to refinance for more than you owe if you need cash. Consider these when determining if refinancing is right for you.

Pros

• You could find lower rates.
• You may lower your monthly payments.
• You can pay off your loan sooner.
• You may consolidate multiple loans.

Cons

• You may pay more in interest.
• You may have to pay fees.
• You could increase your odds of going upside-down.

Pros of refinancing your car loan

You could find lower interest rates

Your interest rate significantly impacts your monthly auto loan payment. Lenders base your interest on your credit score, among other factors.

If your credit has improved since you took out your loan, it’s a great time to explore refinancing options. You may receive more favorable terms and rates. Your credit score is likely higher if you’ve made timely loan payments and responsibly managed your other debts.

You may lower your monthly payments

If you struggle to meet your monthly payments, refinancing can make your monthly payment more affordable and free up cash in your budget. You can get a lower rate, a longer term or both.

Imagine you had a 36-month car loan with a $15,000 remaining balance and an 11 percent annual percentage rate (APR). Here’s how refinancing could change your payment.

You can pay off your loan sooner

Refinancing can also lead to paying off your loan early. If your income has increased since taking out your auto loan, it may be a good time to refinance to a shorter term. If you pay your loan early, you’ll save on interest — assuming the lender’s prepayment penalty doesn’t outweigh your savings.

But if you’d prefer not to refinance, you can make larger monthly payments to reduce the balance faster. You’ll accomplish the same result and may save money by avoiding origination and other fees.

You may access quick cash

Some lenders offer cash-back auto loan refinancing, which can be beneficial if you need fast cash. In addition to a new loan that replaces your current one, you’ll receive money based on the equity you have in your vehicle.

For example, if you have $10,000 left on your auto loan and the current value of your car is $15,000, you have $5,000 in equity. If you decided to withdraw the full $5,000, your total loan amount would be $15,000.

This type of refinancing is not without risk. There’s a chance you’ll become upside-down in your loan, owing more than it’s worth. This makes it more challenging to turn a profit if you decide to sell.

And, of course, you’ll need to make interest payments on the full loan amount.

You can consolidate multiple loans

If you’re juggling multiple loan payments, including a car loan, you could consolidate them into a single debt with a debt consolidation loan. You’d only have to make a single monthly payment. But you might have trouble securing a lower rate with a debt consolidation loan.

Cons of refinancing your car loan

You may pay more in interest

If you refinance to a longer-term car loan, you may pay more interest over the life of the new loan, even if you secure a lower rate. And finding low rates for long-term loans can be difficult.

For example, say you have a 36-month, $15,000 auto loan with an 11 percent APR. Here’s how adjusting those terms impacts the total interest you’ll pay.

You may have to pay fees

Remember that refinancing your loan comes with extra fees. These costs can include some of the same fees your current lender might have charged, including application and origination fees.

Your lender may also charge a fee to transfer the title.

Because the fees can add up, calculate how much the refinance will cost you and how the rate and term compare to your current loan. If you are already in a tough financial situation, these fees may make refinancing less workable.

You may go upside-down on your loan

If you refinance and extend your loan’s term, you are more likely to end up owing more than your vehicle’s worth. This is called being upside-down or underwater on your loan.

Your chances of going upside-down with a longer loan term increase because cars generally depreciate in value each year.

Should you refinance your car loan?

The key to determining if refinancing your loan is a good idea comes down to the amount of money you can potentially save. Weigh the pros and cons while taking advantage of an auto refinance calculator. Below are some situations where it might make sense to refinance:

• Your credit improved. If your credit score has improved, you may receive more favorable terms and rates through refinancing.
• You received dealer financing. Typically, the terms offered through dealerships are not the best available. Explore other lending options if you currently have dealer financing.
• You can’t make payments. Missing payments can result in fees, damaged credit or worse: repossession of the vehicle. If you cannot make payments, refinancing may get you a lower monthly payment.
• You qualify for a better interest rate. If market rates are better than when you initially applied, you may qualify for a lower interest rate. However, this likely isn’t the case. Market rates aren’t currently trending downward due to 2023’s Fed rate hikes.

If you decide to refinance your auto loan, shop with multiple lenders to find the best available rate. Many offer prequalification tools on their websites that allow you to view potential loan offers without impacting your credit score.

Next steps

Before looking for refinance rates, weigh the advantages and disadvantages. Ideally, you want to save money instead of simply stretching your loan term.

If you are struggling financially, it may be sensible to look beyond refinancing to get a more affordable monthly auto loan payment. Ask the lender to modify your current loan or consider trading your car in or selling it privately to get the relief you need.

But if refinancing is right for you, check out Bankrate’s pick for the best auto refinance lender.