Refinancing your car loan is often a simple, and beneficial option to consider if you’re looking to put money back in your pocket. It involves making the move from one car loan to another, usually to gain access to a lower interest rate and fees, flexible features, or to consolidate debt.

Applying to refinance your car loan is typically the same applying as applying for an initial car loan. You must meet the lenders’ eligibility criteria which may include your age, residency status, expenses, income, and credit history. You will also need to provide supporting documents such as identification, your address, payslips, and comprehensive car insurance.

Benefits of refinancing your car loan

Refinancing your car loan may offer several advantages that can save you money and improve your financial situation. Here are some key benefits to keep in mind:

1. Lower interest rates

One of the primary reasons people refinance their car loans is to secure a lower interest rate. If your credit score has improved since you first obtained your car loan or if market interest rates have dropped, refinancing can help you obtain a new low-rate car loan, leading to lower monthly repayments and overall interest costs.

Lowering your monthly payments through refinancing can free up extra cash in your budget, allowing you to allocate those funds towards other financial goals or expenses.

Example: refinancing your car loan to a lower interest rate

You have a $20,000 car loan with a 10% p.a. interest rate. You have taken out a 4-year loan term.

Due to the amortisation schedule, you’d have paid $1,807.38 in interest at the end of the first year, leaving $15,720.36 left.

If you stuck to that schedule, you’d have paid off $4,348 in total interest, with $507 monthly repayments.

Since applying for the car loan, your credit score has improved and you’re confident you can apply for a lower interest rate with another lender.

You find a new loan with a rate of 6.5% p.a. and apply for a new 3-year loan and for the remaining $15,720.36.

With your new rate of 6.5%, you’d pay a total $1,625 in interest and have monthly repayments of $460 over three years.

To find out how refinancing could save you money, head to InfoChoice’s Car Loan Repayment Calculator.

2. Debt consolidation

If you have multiple high-interest loans, refinancing your car loan can provide an opportunity to consolidate your debts. By including other debts, such as credit card balances or personal loans, into your car loan refinancing, you can simplify your finances and potentially benefit from a lower interest rate on the consolidated debt.

You will also condense your debts into one regular repayment, which saving the headache of all the bills coming in.

3. Change loan term

Refinancing your car loan can also allow you to change the loan term. If you currently have a long-term loan and wish to pay off your vehicle sooner, refinancing to a shorter term can help you become debt-free faster. Don’t forget, this option will likely see your repayments increase.

Remember, the benefits of refinancing a car loan can vary based on individual circumstances. Carefully evaluate your situation and consider other factors before making a decision.

4. Access better features

Different lenders will offer different features for a car loan. You may have initially found yourself signing up with a lender who had limited flexibility as it wasn’t something you needed at the time. If your financial circumstances have changed, refinancing could provide you access to a car loan that offers the ability to make extra repayments or a redraw facility.

Your current car loan may also be hitting you with unnecessary, high charging fees. These fees can add up to be a significant cost over the life of the loan. By refinancing and comparing your options, you may find a lender who offers lower fees, saving you money in the long run.

The factors to consider before refinancing your car loan

Before you hop on the refinancing bandwagon, it's important to consider several factors to ensure it's the right choice for you.

Fixed or variable interest

If you have a fixed rate of interest, you might not be able to break out of the loan without significant penalty. Such costs could negate the benefit of switching. Generally speaking, to reap the benefits of refinancing, you need to be on a variable interest rate.

Current interest rate

Compare your existing interest rate with current market rates to determine if refinancing could offer a lower rate. You will have to do the maths and figure out if the fees charged to refinance (below) are worth it.

Car value

Cars generally lose value (depreciate) over time. If you owe more money to the lender that what your car is currently worth, you could be considered a higher lending ‘risk’ and might find it difficult finding a lender who will refinance your car loan. This is because if you were unable to make repayments and your lender seized your car to sell it, it’s unlikely they would get the full amount back to over the remaining loan balance.

Remaining loan balance and term

Consider the outstanding balance on your current car loan. Refinancing is typically more beneficial when the remaining balance is significant, as the potential savings on interest will be more substantial. Decide if refinancing is worth the time, effort, and potential cost. For example, if you only have one year left on your car loan, refinancing could end up costing you more in fees than if you were to complete the final year of payments.

Credit score

Your credit score plays a crucial role in determining the interest rate you can secure when refinancing. If your credit score has improved since you obtained the initial loan, you may qualify for more favorable rates. Conversely, if your credit score has declined, refinancing may not result in significant benefits. Another thing to keep in mind is every application you make for credit goes onto your personal credit file and thus negatively impact your credit score.

Refinancing too often could make it difficult to receive a lower interest rate on future applications e.g. home loan, personal loan, etc.

Fees

Consider any fees associated with refinancing, such as application fees, exit fees, break fees, or valuation fees. Factor in these costs to determine if the potential savings outweigh the expenses.

Also consider the ongoing fees with the new lender. The lower interest rate might look appealing, however consider the above scenario with less than $1,000 saved. You’ll want to make sure refinancing is worth it, especially if the new lender is charging you additional fees.

When is the right time to refinance a car loan?

There is no right time to refinance a car loan. Technically, you could refinance as soon as your car loan begins. Though it can be better to refinance after six months or a year, when you’ve paid off some of the loan.

Generally speaking the bigger the balance, the wider the interest rate difference, and the longer the original loan term, the more you could stand to gain from refinancing.

Remember, every individual's circumstances are unique, and what works for one person may not work for another. Evaluating your personal and financial situation can help you determine when the right time to refinance might be.