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Now is the best time to refinance your car loan — here's why

Hyundai Santa Fe 2023
(Image credit: Hyundai)

Used car prices shot up by more than 40% between January 2021 and 2022 — and that can be great news for those who are willing to refinance their car loan. 

With chip shortages and other market factors suppressing vehicle manufacturing, car buyers have been forced to look to the used car market, and their demand is causing prices to soar.

If you're a vehicle owner, that's good news, since your car may be worth *a lot* more than you think. And if you're among the many consumers looking to get a break from the ever-increasing cost of living, refinancing your car loan could be part of the solution.

What is auto refinancing?

Car loan refinancing involves replacing your current loan with a new one. With auto refinancing, you can borrow an amount equal to the balance on your original loan, or borrow up to the full market value of your vehicle, and use the money to pay off your initial loan.

Many banks, credit unions and online lenders offer auto refinancing. Like other loans, you'll have to qualify based on lender requirements. 

The better the condition of your vehicle, and the higher your credit scores, the more likely you are to get good, affordable offers from multiple lenders. 

When does refinancing a car loan make sense?

Market forces can impact your chances of getting a new loan with better terms. Here's why now is one of the best times to consider auto refinancing:

Vehicle prices are way up

In June 2022, used car prices hit an all-time high, and in July, the Bureau of Labor Statistics reported (opens in new tab) that used cars had experienced more price inflation than almost any other item on the market.

What does that have to do with refinancing? The value of your car impacts your ability to refinance into a more affordable loan. The higher your loan-to-value ratio (LTV)—which compares your car's value to your loan balance—the better your chances are of saving money with a new loan. 

Under normal economic conditions, new cars typically lose around 20% of their value within the first year of ownership, and another 15% to 25% over each of the next four years. That means a three-year-old vehicle could be worth less than half its original purchase price.

By comparison, CoPilot’s Return to Normal Index (opens in new tab) found that used cars skyrocketed to 42% above their normal values in June of 2022. But prices are likely to decline through the end of 2023, when vehicle shortages are predicted to rebound, so now could be the best time to consider refinancing.

Interest rates are down

Despite the Federal Reserve's interest rate hikes, some auto refinance lenders are still advertising rates below 3%. That means vehicle owners may still be able to save money by refinancing at low rates.

According to a report (opens in new tab) from RateGenius, an online auto lending marketplace, consumers who refinanced in April 2022 reduced their rates by an average of 7.24%, and lowered their monthly payments by an average of $83.82.

While The Fed's 2022 rate hikes have only caused some manufacturers to raise rates by about 1% for new vehicles, there may be several more increases before the end of the year. And those rate increases will cut into your potential savings from an auto refinance.

How refinancing a car loan can save you money

Every lender offers different rates and terms, but these are some of the main benefits you can get from auto refinancing:

Lower monthly payments

Taking on a new loan could mean reducing your monthly car payment.

If your new loan is smaller than the original loan, or if you lengthen the term of your repayment, your new monthly payment amount could be lower than what you currently pay.

It's worth noting, however, that extending your repayment time frame will increase the total interest charges you accrue, so this option is only recommended for borrowers struggling with cash-flow issues.

Reduced interest rate

You may be in a position to get a better rate on a new loan.

Lower interest rates are typically available for borrowers whose credit has improved since they took out their original loans, or if the market has caused rates to drop.

Access to equity

If you have equity in your car — meaning it's worth more than your current loan balance — refinancing could put cash in your hands.

With a cash-out refinance, you can borrow more than the amount you need to pay off your old loan, and use the extra cash to pay off expensive debt, like credit cards.

For example, if your car is valued at $20,000, and you currently owe $15,000, you could potentially get a cash out refinance loan for the full value of the vehicle. After paying off your original loan, you'd be left with an extra $5,000 that you could use to pay off high-interest debt.

Note that it's not recommended to cash out your equity for any other purpose than paying off high-interest debt, since doing so would increase your total debt load.

Getting a pause from payments

Refinancing your auto loan can give you a temporary break from car payments.

When you're approved for a refinance loan, the new lender may give you a grace period or a window of time before your first payment is due. Some offer grace periods as long as 60 to 90 days.

It is worth noting that interest will likely accrue during the grace period, so you should calculate the overall cost before deciding to delay payments.

Should I refinance my car loan?

You stand to gain the most from auto refinancing if any of the following circumstances apply:

  • Your car value is up: This is likely the case if you own an electric or hybrid vehicle or if you own a nearly-new vehicle (under three years old), but older vehicle values are up over 40%, too. You can check the market value of your car at Kelley Blue Book (opens in new tab) and Edmunds (opens in new tab).
  • Your credit has improved. If your credit scores have gone up since you took out your original loan (which typically takes at least six months), you will likely qualify for better rates and terms. 
  • You originally borrowed from a dealership. Dealerships typically offer higher rates and fees than other lenders. If you can refinance a dealer-backed loan through a bank or credit union, you'll likely save money on future car payments.

You may want to hold off on refinancing if you only have a few payments left on your current loan or if your lender has a prepayment penalty.

If refinancing isn't right for you, other cost-saving measures still exist. If your car is worth more than you owe, you could save money by canceling your GAP coverage. 

The U.S. Department of Energy estimates that vehicle owners can also reduce their fuel economy by as much as 10% through better driving and maintenance (opens in new tab), which includes keeping tires properly inflated, changing clogged air filters and getting regular tune-ups.

Sarah Brady
Personal finance writer

Sarah Brady is a personal finance writer and educator who's been helping individuals and entrepreneurs improve their financial wellness since 2013. Sarah's other publications include Forbes, TIME's Next Advisor, Investopedia and Experian, and her work has been syndicated by Yahoo! News and MSN. She is a former educator for the City of San Francisco’s affordable home buying programs, as well as a former Certified Credit Counselor (NFCC) and Housing Counselor (HUD).