There are many reasons to refinance your car loan. Perhaps you’re looking to make your debt more manageable, create more room in your monthly budget or secure a lower interest rate. When you refinance, you pay off an existing loan with a new loan that ideally offers better terms for your financial situation.
Refinancing your car loan could be helpful if it lowers your interest rate, reduces your monthly payments or makes your repayment term more convenient, but it could also impact your credit score. Here’s what to know.
Applying for a new loan triggers a hard credit check
When you refinance your car loan, the prospective lender will pull your credit report from one of the main credit reporting agencies — Experian, TransUnion or Equifax — to check your credit history. This is known as a “hard check” on your credit, which could temporarily lower your credit score by a few points.
If you apply for several different car loans, each of those applications will lead to a “hard check” of your credit report. That doesn’t mean you shouldn’t shop for the best rates, however. Credit bureaus typically treat multiple hard credit checks for the same type of loan as a single inquiry if they happen within a short amount of time.
If you’re curious about which loans and terms you may be eligible for, but you don’t want to authorize a hard credit check yet, prequalification is a good way to see what you may be offered. Prequalifying triggers a type of credit inquiry called a “soft check,” which doesn’t affect your credit score. While prequalification doesn’t result in a final offer from a lender, it’s a helpful way to compare terms between different lenders you may be considering.
You may be in debt longer
The total amount of debt you have includes revolving credit, like credit cards, and any installment credit, such as auto loans. The more you consistently pay down your debt, the better off you are. Lenders like to see borrowers paying down their balance consistently every month.
If you extend your repayment term with a refinance, it means you’ll be paying off your debt more slowly. Borrowers who carry more debt for a longer period of time could be seen as riskier for lenders.
Your payment history could be affected
Payment history is the biggest individual factor in your credit score. If refinancing makes it easier for you to consistently pay your bills on time by lowering your monthly payments, you may see an improvement in your credit score. Lenders like to see that you reliably pay your bills, so if that’s something you’ve struggled with in the past, you might be able to repair the damage by keeping up with your new, lower monthly payments.
The opposite is also true, however. If you fall behind on your payments, you could do serious damage to your credit score and may have trouble borrowing in the future. When reviewing the terms of your refinance before you sign, make sure the payments are realistic for your budget.
A new loan could lower your average account age
Lenders like to see borrowers with a long record of managing credit. Refinancing a car loan means you’re closing an old loan and replacing it with a new loan, which lowers the average age of all your credit accounts. A lower average account age could lower your credit score a bit.
Weigh the pros and cons of a refinance
Refinancing a car loan can have a variety of positive and negative impacts on your credit score. Applying for a new loan could temporarily ding your credit, as could lowering the average age of your accounts and having a larger amount of debt for a longer period. However, refinancing your loan could give you the opportunity to improve your payment history, which is the biggest factor in calculating your credit score.
If refinancing makes it easier for you to make consistent on-time monthly payments over the life of your loan, it may balance out not only any added interest costs, but any temporary hits to your credit from taking out the loan in the first place.
So, before you move forward with refinancing your car loan, carefully consider how it could affect your credit score and your finances as a whole, now and in years to come.
Notice: Information provided in this article is for information purposes only and does not necessarily reflect the views of whatutalkingboutwilis.com or its employees. Please be sure to consult your financial advisor about your financial circumstances and options. This site may receive compensation from advertisers for links to third-party websites.
