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Reducing an Auto Loan's Interest Rate With Refinancing

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author photo by Russ Heaps November 2014

Do you feel trapped in a car loan that has a high interest rate? The interest rate is what you pay over time to borrow money. Typically higher-risk borrowers wind up with higher rates because lenders base the cost of borrowed money on the likelihood that it will be paid back. The better a borrower's credit history is, the less likely it is that he or she will fail to pay back the loan; therefore, the rate is lower.

Who Might Refinance?

A high rate isn't always a reflection of a borrower's high risk. Sometimes, lower-risk borrowers fail to do their homework and wind up paying more interest. In other cases, after securing a high-interest-rate loan, higher-risk borrowers may get their finances in order, clean up their credit history and lower their risk level.

A credit score is a living thing that changes day to day. Paying bills on time for a while and eliminating negative reports in a credit history can pump up a credit score, and improving it by 40 or 50 points may be enough for a lender to refinance a car loan at a lower rate. Depending on the loan's remaining balance, refinancing could lower monthly payments, saving hundreds of dollars over the life of the loan.

What Are Some Refinancing Requirements?

Once the original loan is issued, other considerations beyond a borrower's risk level come into play. Lenders have strict requirements to follow when considering refinancing an auto loan. Key among them: Is the vehicle worth less than the current loan balance? This is also known as being upside down. Even in this case, though, a lender may still refinance the loan if the borrower puts a cash down payment to make up the difference. The borrower will need to do some math to determine if the money saved in refinancing will be more than the additional down payment.

Most lenders also consider a car's age when qualifying a borrower for refinancing. Usually, 7 or 8 years is about the limit, but a little research might turn up a lender willing to loan money on an older car.

Moreover, the balance of the current loan must be within a lender's refinancing limits. Most lenders require a minimum balance ($7,000 to $10,000) on the current loan to make it worth their while. Most also have maximum current-loan limits. Expect those to be in the $25,000 to $30,000 range. Again, each lender is different, and some research may turn up a lender who's willing to loan more.

Additionally, some auto loans have an early-pay-off penalty. Such a penalty might offset any potential savings from a lower rate.

What next?

If you are thinking of refinancing at this point, you need three numbers to move forward: your credit score, the book value of your car and the payoff amount of your current car loan.

You have the right to a free credit report from each of the three national reporting agencies (Experian, TransUnion and Equifax) each year. Determining your car's value is as easy as going to a website such as Kelley Blue Book and entering the required information. Your current lender will provide you with your loan payoff information.

Armed with these three numbers, you are ready to contact potential refinance lenders.

What it means to you: Refinancing isn't for everyone. If you qualify, however, you may be able to lower your monthly payments and save money by reducing your interest rate or extending the life of your loan.

This image is a stock photo and is not an exact representation of any vehicle offered for sale. Advertised vehicles of this model may have styling, trim levels, colors and optional equipment that differ from the stock photo.
Reducing an Auto Loan's Interest Rate With Refinancing - Autotrader