Here are the benefits of refinancing a car loan in Canada
It’s been a few years since you got your car loan and you’ve been diligent about paying it off. Despite the fact that you’ve been paying on time, you aren't thrilled about how much interest you're being charged each month — you also recently heard that interest rates are dropping fast.
In this situation, it’s worth exploring whether refinancing your car loan makes sense. There are a few other scenarios as well where you might want to consider refinancing.
Below, we take a look at when you should consider refinancing a car loan and what the benefits are.
Lower monthly payments
When you refinance your car, it means you take out a new loan to immediately pay off your old one, while getting a new (and better) interest rate as a result.
Getting a better interest rate can save you a considerable amount of money. Here’s an example.
Say you’re getting a $25,000 car loan in Canada with an interest rate of 7% and a 96-month loan duration. Your monthly payment will be $385.15, which comes out to $8,724.64 in interest over the life of the loan.
But if that interest rate drops down to 5%, all of a sudden, your monthly payments fall to $357.64. But the biggest impact is on the interest paid: over 96 months, you’d pay $6,083.70 in interest — nearly $2,700 less than you would with a 5% rate. Clearly, if refinancing can help you achieve this, you should do it.
A look at when to refinance
There are a variety of reasons why someone might want to refinance their car loan. Here’s a look at the most common.
When interest rates drop
If it’s been a few years since you bought your car and interest rates have dropped substantially, it’s time to consider refinancing. As the example above shows, you can save a considerable amount of money even with a small drop of two percentage points.
Your financial situation is better
If you applied for your car loan when you were working a part-time job and had a low credit score, the lender likely gave you a high interest rate because you were viewed as higher risk.
But if since then you’ve been hired full-time on a higher salary and your credit score has moved up to the good or excellent tier, you may want to consider refinancing. Your income and credit score can have a significant effect on the interest rate a lender gives you.
You’re struggling to pay bills
If you’re having a hard time keeping up with your car payment and all your other financial obligations, you might want to consider speaking to a lender about what you can do.
A lender would rather accommodate you than risk you defaulting on the money you owe them. They may agree to lengthen your loan to help make payments smaller, for instance. Either way, if making current payments becomes difficult, it’s worth exploring a refinancing.
Be aware of penalties
Lenders prefer you not change the terms of your loan after you’ve agreed to the original contract. That’s why refinancing is not a good option every time. For instance, you may have to pay a penalty for paying off your loan in full before the loan term is up.
In that case, you should compare the penalty versus the potential savings. If you’re going to be penalized $500 but can save $2,700, then the trade off is definitely worth it. If not, refinancing is clearly not the best option for you.