Does Refinancing Your Car Hurt Your Credit?

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Refinancing your car loan can be a great way to secure a better interest rate or a different loan term. But does refinancing hurt your credit?

We’ll explain how refinancing can affect your credit score and whether refinancing is a good idea.

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Is refinancing your car hurting your credit score?

The short answer is yes—refinancing can negatively affect your credit score.

When you refinance a car loan, you must submit a new loan application, which results in a hard credit check. The good news is that a single inquiry does not stay on your credit report very long.

Another reason refinancing can have a negative impact on your credit is that it lowers the age of your loans. One of the factors that contribute to your credit is the average length of your credit history. Once you pay off your current loan, your average age of credit may drop.

In general, the effect of refinancing on your FICO score should be minimal. However, completing a credit check after refinancing is still a good idea to make sure it doesn’t affect your score too much.

How does refinancing a car loan work?

Refinancing a car loan is the process of replacing your current car loan with a new one. Most borrowers refinance to get a lower interest rate, a lower monthly payment, or a different repayment period.

To refinance, you must submit an new car loan application, as you did with your original loan. If approved, you can compare the new loan’s interest rate to the rate you’re currently paying. If the interest rate is lower, refinancing will help you pay less each month to borrow the money.

When should you refinance a car?

Since auto refinancing can temporarily affect your credit score, you should first consider whether it is the right financial move. Refinancing a car loan may be a good decision for you if you meet any of the following criteria:

  • Interest rates have fallen: If average interest rates decreased since you took out your original loan, it may be worth refinancing.
  • Your credit score has improved: Making on-time payments for a long period of time can boost your credit score. If your credit score has improved significantly since your original loan, you can save money by refinancing.
  • Your car has good resale value: If your car is worth more than your car loan, refinancing can also help you save. Lenders may be more willing to offer you a better interest rate than you car retains its value.
  • Your loan is too expensive: A lower interest rate can offer you significant savings each month, which can be important if your original car loan is too expensive. Refinancing your car loan may be one of the best financial decisions if it keeps more cash in your wallet.
  • You have a co-signer: A co-signer with good credit and a good payment history can also help you qualify for a better rate. A trusted friend or family member who is willing to co-sign your car loan can help you save money.
  • You need cash: If you have positive equity in your vehicle, you may also qualify for an automatic refinance. This type of auto loan refinance replaces your existing loan and pays you the rest in cash.

Things to consider before refinancing a car loan

Refinancing can be a good solution for some vehicle owners, but it is not the best choice for everyone. Here are some things to consider before refinancing your car loan:

  • Your credit score has decreased since your last car loan: If your credit score has dropped since your original loan application, you are unlikely to qualify for a better interest rate. In this case, it may be better to wait until you improve your credit or find a co-signer to refinance.
  • Your loan provider charges prepayment penalties: Some car lenders charge prepayment penalties if you pay off your loan early. In addition, you may still have to make a down payment or pay origination fees on the new loan. You’ll want to calculate these additional costs to decide if the savings are worth it.
  • The value of your vehicle is less than what you owe: You may find it difficult to refinance a car loan if you have negative equity in your vehicle. If you find a lender to approve you, expect to pay a much higher monthly payment.
  • Your car is almost paid off: It may not be worth refinancing your car loan if you have already paid off most of the balance. Most of the interest you pay on a car loan is at the beginning of the term. In this case, you can end up paying more by replacing your current loan with a new one.

How to minimize the negative impact on your credit score

Even if you have an excellent credit score, refinancing will likely have a negative effect on your credit for a short period of time. Although not completely unavoidable, there are some ways you can reduce the impact, including:

Compare rates within the same period

Comparing interest rates from various lenders is one of the best ways to get a good rate. The primary purpose of refinancing a car loan is to qualify for a lower interest rate, which can result in lower monthly payments. Credit bureaus usually bundle inquiries of the same type together, so try to compare rates within a week or two to avoid a big hit.

Check your credit score

It is always a good idea to check your credit before applying for a loan. Before you begin to apply for refinancing loans, set a credit report from the three major credit bureaus: Equifax, Experian and TransUnion. The US government allows all consumers to receive one free credit report per year from all major reporting bureaus.

Be pre-qualified

Most lenders offer pre-qualifications, also called pre-approvals, which are a letter stating how much money they are willing to lend you based on the loan terms you have chosen. Getting pre-approved shows you how much money you can spend, and at what interest rate, without agreeing to the loan and applying.

Avoid applying for other loan types

When applying for refinance loans, avoid applying for any other types of loans during this time. Otherwise, you may be subject to several hard credit checks, which will affect your credit score even more. Try to time your auto refinance for a time when you don’t need any other loan types, such as a mortgage.

Can you refinance a car with bad credit?

While it is possible to refinance a car with bad credit, it is not always the best option. You usually need good to excellent credit to qualify for a better loan interest rate. With bad credit, it will likely be much more difficult to find a good interest rate.

However, you can still explore refinancing even with bad credit. Getting pre-approved from a few different lenders will show you what interest rates you can qualify for. If you find a lower interest rate than what you are currently paying, refinancing may be a good choice.

Another thing to consider is using a co-signer for your refinance loan. If you have bad credit, co-signing a new loan with someone who has good credit can help you qualify for a better interest rate. Refinancing with a co-signer who also had bad credit probably won’t help.

Is it worth it to refinance your car?

Even though refinancing your existing car loan may affect your credit score temporarily, the long-term cost savings are usually worth it. Refinancing can save you a lot of money, especially if your credit score has improved since you took out the current loan.

A lower monthly payment can also make it easier to pay off other loans you may have, which also improves your credit.

Head shot by Elizabeth Rivelli

Finance & Insurance Editor

Elizabeth Rivelli is a freelance writer with over three years of experience covering personal finance and insurance. She has extensive knowledge of various lines of insurance, including auto insurance and property insurance. Her byline has appeared in dozens of online finance publications, such as The Balance, Investopedia, Reviews.com, Forbes and Bankrate.