Should you refinance your car loan? A quick way to decide

Refinancing a car loan means replacing your current loan with a new one, ideally at a lower interest rate. The new lender pays off the old loan, and you make payments to the new lender instead.

Done right, it could save you anywhere from a few hundred to a couple thousand dollars over the life of the loan. Done wrong, it can quietly cost you more. Here’s a quick way to tell which side you’re on.

Three signs refinancing could pay off

1. Your credit has improved. If your credit score has gone up noticeably since you got the loan, maybe because you’ve paid bills on time or paid down a credit card, you may now qualify for a lower rate.

2. You took dealer financing without shopping around. Dealers can mark up the rate a lender offers them. If you signed for whatever the finance office offered, there’s a fair chance a bank or credit union would beat it.

3. Rates have dropped since you bought. If rates in general are lower than when you took the loan, it’s worth checking what you’d qualify for today.

A useful rule of thumb: if you could lower your rate by about 1 to 2 percentage points or more, and you have at least a couple of years left on the loan, run the numbers.

When to skip it

Refinancing isn’t worth it for everyone. It’s often a poor fit if:

• You’re near the end of the loan. Most of the interest on a car loan is paid in the early years, so there’s less left to save.
• The car is older or high-mileage. Many lenders won’t refinance cars past a certain age or mileage, or charge more to do it.
• You owe more than the car is worth. This is called being “upside down.” Some lenders won’t refinance, and those that do may charge a higher rate.
• Your loan has a prepayment penalty. Some loans charge a fee for paying them off early. Check your contract.

Watch the term, not just the payment

This is the trap. A lender can lower your monthly payment simply by stretching the loan out longer, even at the same rate. Your payment drops, but you pay more interest in total and stay in debt longer.

When you compare offers, look at two numbers:

• The interest rate (APR). The annual percentage rate includes interest plus certain fees, so it’s the fairest way to compare.
• The total you’ll pay over the remaining life of the loan.

The best refinance keeps the same or a shorter remaining term at a lower rate. If you have 36 months left, ask for quotes on 36 months, not 60.

Stretching the term can still be reasonable if your budget is truly squeezed and lower payments keep you current. Just go in knowing it costs more in the long run.

Count the fees

Refinancing usually isn’t free. Common costs include a small title transfer or re-registration fee from your state and, sometimes, a lender origination fee. Together these often run from nothing to a few hundred dollars.

Subtract those fees from your projected interest savings. If what’s left is small, it may not be worth the paperwork.

How to shop without hurting your credit

Many lenders offer prequalification with a “soft” credit check, which doesn’t affect your score. Use that to compare rates first.

When you formally apply, the lender does a “hard” credit check, which can lower your score by a few points temporarily. Credit scoring models typically treat several auto loan inquiries within a short window, often a couple of weeks, as a single inquiry. So do your formal applications close together.

Check your bank, at least one credit union and one or two online lenders. Credit unions are often competitive on auto loans.

Start here

In about 20 minutes:

• Find your current loan’s rate, remaining balance, months left and any prepayment penalty.
• Check your current credit score through your bank or card issuer.
• Get two or three soft-check prequalification quotes for the same remaining term.
• Compare total cost after fees, not just the monthly payment.