Understanding Auto Refinancing and How It Works
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Buying a vehicle is a significant financial decision. As of 2021, with the cost of a new car averaging over $45,000 and used cars having a median price above $25,000, purchasing a vehicle is a major monetary commitment.
Since most buyers cannot write a check for such a large sum of money, taking out an auto loan and paying off their obligation over time is a common choice.
A car loan divides the total cost into smaller, manageable payments over several years, allowing borrowers to keep extra money in their bank accounts for other expenses.
But what if, in the rush of excitement of buying a car, you take out an auto loan with unsatisfactory terms? Maybe the interest rate's higher than you'd prefer, or the term length isn't ideal for your financial situation.
In the circumstances like these, refinancing your auto loan makes sense. But what is refinancing a car? What happens when you refinance a car?
Let's look at the details of refinancing a car loan.
Understanding auto financing
Because vehicles usually cost thousands of dollars, buyers typically choose to take out an auto loan and pay over time.
When you finance a vehicle, a lender agrees to provide the funds needed for purchase, and you guarantee repayment over a set period.
However, financing a car isn't as straightforward as a personal loan from a friend where you borrow money and then pay them back the same amount. An auto loan is a specific category of loan customized to help people pay for a vehicle.
When you finance, variables include the down payment, interest rate, APR, and term length. Each element influences both what you pay per month and the total loan amount over the term length.
Usually, buyers make a down payment to reduce the sum of money they finance. This reduces their monthly payments and makes them more appealing borrowers, leading to better loan terms.
A loan's term length is typically 36-72 months, though some go as long as 84.
The longer the term of your loan, the lower your monthly payments, which could allow you to purchase something more expensive than you'd initially planned.
The interest rate on an auto loan is a percentage of the principal amount of money you borrow. When you take out a $30,000 loan with an interest rate of 5 percent, that percentage contributes to your total monthly payment during the term.
A car loan's APR consists of the interest rate plus any fees or charges the lender adds. APR is an abbreviation for the annual percentage rate and provides a more comprehensive picture of how much you'll owe during the life of the loan.
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How does refinancing a car work?
If you're unsatisfied with the terms of your current auto loan, refinancing could make sense.
Say your interest rate is higher than you'd like, resulting in larger payments than you'd budgeted for. Or maybe the term of your loan is less than ideal, and you'd prefer to pay over a more extended period, keeping more funds in your bank account month to month.
When you refinance an auto loan, you have the opportunity to obtain a new one with more attractive terms, possibly lowering not only your monthly payments but your total cost over time.
Usually, your current lender won't re-work the terms of your loan. However, you can seek a different loan elsewhere and obtain an entirely new one that better suits your needs.
When you refinance a car, you sign on to a new loan with different terms. The lender pays the balance of your previous loan and starts you off on an improved one. You then begin making payments under this new agreement.
Should I refinance my car?
Refinancing a car is a good option when you're looking to save money.
Occasionally interest rates drop, raising the possibility of you securing a better one on your car loan. Interest rates rise and fall depending on different factors, like economic conditions or changes in regulations. No matter the reason, a lower interest rate on your car loan could lessen your monthly payments, as well as your total cost over the life of the loan.
If you purchased a vehicle beyond your financial means and keeping up with payments is a challenge, refinancing could be for you. While a lower interest rate helps reduce your costs, exploring the possibility of a longer-term loan can also decrease your month-to-month obligation.
Either way, refinancing your car loan offers you the chance to keep extra funds in your bank account, giving you needed money for everyday expenses.
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Auto refinance in summary
While financing the cost of a vehicle allows you to get behind the wheel and pay down your obligation over time, occasionally, loan terms aren't ideal. Maybe the interest rate adds too much to your total costs, or the term length keeps monthly payments too high.
In a scenario like this, refinancing your car loan makes sense. When you refinance, you can secure not only a lower interest rate but also change the term length, both of which make paying off your loan easier on a month-to-month basis.
When you refinance and obtain more advantageous loan terms, it allows you to keep supplemental funds around that you can use at your discretion. You can make investments, set aside savings, or use it for day-to-day expenses with this extra money.
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April 15, 2022
Pricing shown is not guaranteed and does not include taxes or other product fees.