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How To Determine If Auto Refinancing Makes Sense
By EchoBay Loans Staff Writer

If you're like most savvy consumers, you've probably noticed the increased trend in auto refinancing and you've probably wondered whether or not it is the right move for you. How do you know if refinancing your automobile is going to save you some of your hard-earned cash or if it's going to part you with it unnecessarily? Deciding on whether or not to refinance your auto loan doesn't have to be a shot in the dark. There are a number of factors that you can take into consideration which will help you determine if auto refinancing is right for you.

The first thing you need to ask yourself is whether or not you're going to be able to reduce your interest rate.
If interest rates have increased since you originally financed your car, refinancing at this point in time would be akin to throwing that hard-earned money right out the window. However, if interest rates are at least one percent less than your current interest rate, car refinancing may be very beneficial to your pocketbook.

For example, a $15,000 auto loan at an interest rate of 9 percent over 60 months gets you a monthly payment of $270.38 and a total loan cost of $16,222.80. That same loan at an interest rate of just 7 percent will provide you with a monthly payment of $255.74 and a total cost of $15,344.40. That may not seem like much on a per-month basis, but that's a savings of over $875 over the term of your loan.

If current interest rates indicate that refinancing is in your best interests, the next thing you'll want to look at is how much you owe on your current auto loan. You'll need to owe at least $5,000 on your car to meet most lender's minimum amount. If you owe less than this, you'll want to look into other ways of refinancing your auto loan. Some people in this situation will choose to use funds from a low-interest home equity line of credit and many will even write a check from a low-interest credit card as a means of lowering their auto loan interest rate.

If interest rates have dropped and you owe more than $5,000 on your auto loan, you'll want to take a look at the terms and conditions of that loan. Not all auto loans are created equal, and there are certain types of loans that can cause auto refinancing to be a bit of a headache. The first thing you want to do is make sure that your current lender isn't going to impose a prepayment penalty. In the eyes of your current lender, a refinance is an early payoff and if your lender charges a prepayment penalty, you're going to be responsible for that fee when you refinance. Look closely; lenders can be sneaky. Even if your loan doesn't specifically say prepayment penalty, you may be paying one without realizing it.

If your loan is a pre-computed loan, it might as well spell out "prepayment penalty" in the terms and conditions. Most pre-computed loans are based on the Rule of 78s. While this type of loan doesn't have a negative effect on the consumers who pay off their loans over the entire loan term, it does have a significant impact on consumers who want to pay off their loan early or who wish to refinance their loan a couple of years into the loan term. Many consumers who have been paying on their loans for two years go to refinance and find out that their principal balance is almost as much as it was when they took their loan out.

They've paid a few thousand dollars over the past 24 months, so where did all their money go? It didn't just disappear; it's actually lining the lender's pockets very nicely. With this type of loan, you pay the majority of the interest within the first 3 quarters of the loan. That means if you have a 4-year loan term, your principal doesn't really start going down until the fourth year of the loan. If you want to avoid this kind of headache, make sure that any auto loans you take out are simple-interest loans rather than pre-computed loans.

If you've checked into all of the above considerations and it's looking as though auto refinancing is right for you, you're going to want to take a look at your credit report. If your credit has suffered some dings and dents since you took out your last auto loan, you may be facing a significantly higher interest rate, negating any benefits that refinancing may have had. Think credit scores don't play a significant factor in how much interest you might pay? "A" credit consumers could pay a 6 percent interest rate, while consumers with less favorable credit could pay 20 percent or more. The table below, based on a $10,000 refinance spread out over 48 months, shows exactly how much of a difference this could make.

6% Interest Rate 17% Interest Rate
Monthly Payment Total Payments Monthly Payment Total Payments
$235 $11,280 $304 $14,592

Using the above scenario, a person with damaged credit will pay approximately $3,300 more over the course of their car loan. If your credit has gotten worse, you're not going to want to step into a loan with a higher interest rate. On the other hand, if your credit has significantly improved, you could be saving that money and auto refinancing may be an extremely wise financial move on your part.

If you determine that car refinancing is just what your financial situation calls for, you're going to need to determine what type of terms you're looking for. If you originally had a 60-month loan term, it may be tempting to refinance for another 60 months in order to get a lower monthly car payment. Many consumers don't realize that this will actually wind up costing them more money in the long run. The table below shows you how much money you stand to lose due to increased interest costs if you decide to extend your auto loan.

Based on an original loan amount of $10,000 and consumer having made 20 payments on original loan term.
Original Loan Term Original Interest Rate Refi. Loan Term New Interest Rate Total Amount Paid
60 Months 9 percent 60 Months 6 percent $12,446
60 Months 9 percent 36 Months 6 percent $11,436

Using the above scenario, the 36-month car refinancing allows you to pay off your auto loan earlier and you save over $1,000 in the process.

If you take the above factors into consideration and you find that auto refinancing makes sense for you, it's time to start looking at the lenders who will meet your auto refinancing needs. It's not uncommon for consumers who decide in favor of refinancing their auto loans to find themselves saving hundreds or even thousands of dollars over the term of their loan. Since the auto refinancing process is relatively quick and simple, the rewards are well worth the effort when the situation is right.


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