You might be able to get better loan terms and free up money in your budget by refinancing your auto loan. So, does refinancing a car hurt your credit?
Refinancing a car can hurt your credit temporarily, but your score should bounce back. Refinancing a car can reduce your monthly payment and give you extra room in your budget while also saving you money on interest.
When you refinance a car loan, it could temporarily ding your credit score, but it’s unlikely to hurt your credit in the long run.
Why Refinancing Can Lower Your Credit Score
Lenders typically check your credit when you apply for credit. That causes a hard inquiry to be noted on your credit, which can cause a temporary dip in your score. Hard inquiries typically have a six-month lag before they lose their impact.
If multiple inquiries for a car loan are made in a short period of time, they are frequently combined into one inquiry. For that reason, it’s smart to do your loan rate-shopping relatively quickly. FICO gives you 45 days, while VantageScore gives you a rolling 14-day period.
Refinancing your auto loan may also damage your credit by lowering the average age of your accounts. That’s because your original car loan will be paid off early and replaced by a new auto loan. But that’s a relatively small element among the factors that affect your credit score. Read about Can You Trade in a Financed Car?
How Lenders Evaluate Auto Loan Refinance Applications
Fortunately, getting pre-qualified for auto loan refinancing has no effect on your credit. Your credit score won’t be affected because it only involves a soft credit pull or soft credit inquiry. Anyone who is interested in refinancing but wants to get a sense of the offers that might be available to them should start with this because it is a great first step.
Lenders will evaluate your creditworthiness after you finish and submit your application. Generally, they’ll look at the following to make a decision:
- Your car: Auto loans are secured, so in order for your car to serve as collateral for the loan, it must comply with the lender’s requirements.
- Your loan:Borrowers who have a loan-to-value ratio of between 125% and 135% will probably be eligible for better terms. But it also helps to have a good track record of payments.
- Your finances:In a perfect world, you’d have a consistent source of income, a track record of wise borrowing decisions, and a debt-to-income ratio of 50% or less.
Don’t worry if you don’t quite meet all of the requirements above. Even if you have a lower credit score, there may still be a lender willing to work with your credit profile because every financial institution is different.
How Refinancing a Car Loan Affects Credit？
Your credit score may be impacted by a car loan refinance. This is because of your FICO credit score, which comes from the Fair Isaac Corporation. FICO scores are based on how you handle your credit, which includes your payment history, the amount of debt you owe, the length of your credit history, and even any recent credit applications, such as those for car loan refinancing.
When you apply for new credit and your credit report receives a hard inquiry, this credit scoring model may cause a small drop in your score. In addition, a new account on your credit profile decreases the average age of your credit accounts, which also impacts your overall FICO score.Here is a deeper look at how refinancing a car loan impacts your credit:
- It generates hard inquiries:A hard credit inquiry is produced each time you apply for a loan, which might cause a small decline in your credit score. While hard inquiries can stay on your credit report for up to two years, they only have a 12-month effect on your credit score. Therefore, refinancing a car loan—which requires applying for a new loan—could temporarily lower your credit score.
- It lowers your accounts’ average age:Refinancing also reduces the average age of your accounts, which may result in a drop in your credit score. It’s good to know that account age only accounts for 15% of your credit score. If you responsibly manage your new auto loan and other debt accounts, your credit score should quickly improve.
- It has more impact if reported as a new loan:If your loan refinance is reported as a “new” loan, it will more significantly impact your credit profile. The refinance will not only generate a credit inquiry but also have the added impact of creating a new “open date” on your profile. The credit reporting companies are informed that you have taken on a new debt obligation when a new open date appears, which raises your overall debt burden.
How Much Will Refinancing My Car Drop My Credit?
Most credit scoring models only take into account inquiries made within the previous 12 months, even though the hard credit checks connected with your auto refinance application will stay on your credit report for two years. Credit checks typically only subtract a small amount of points from your score—about 5 points. But keep in mind that a credit check will affect your score more negatively if you have a short credit history or few credit accounts.
If your credit score is higher than 750, which is considered to be in the “super-prime credit tier,” a brief decline in your credit rating won’t have a significant impact on you. You can get the best rates because lenders see you as a lower-risk borrower. Read about How Soon Can You Trade in a Financed Car?
How to Refinance My Car Loan?
If you decide to refinance your car loan, make sure to follow the right procedures to minimize the potential damage to your credit score. Here’s how to approach the refinancing process.
Rate Shopping
Rate shopping enables you to compare offers, choose loans with better interest rates, and refinance your car loan. The only problem is that if you don’t finish it by the deadline, you risk damaging your credit.
By submitting all of your applications within a predetermined time frame, you can lessen the adverse effects of any hard credit checks. Multiple hard inquiries made between 14 and 45 days apart are regarded as a single inquiry, depending on the credit scoring model (such as your VantageScore or FICO score). This indicates that limiting your application submissions to this window will have a negligible negative effect on your credit score. Before applying, you can confirm with lenders which credit scoring model they employ.
Review Your Credit
You should be aware of your situation because it will affect how your credit score is calculated, which is based on information already in your credit file. You could also help yourself by obtaining your credit reports, reading them, and pointing out and disputing any errors that might be harming your scores. The three major credit bureaus, Experian, Equifax, and TransUnion, are required to provide you with a free copy of your credit report every 12 months.
Knowing your borrower risk profile’s typical classification—super-prime, prime, near-prime, subprime, and deep subprime—is another benefit of checking your credit score. Your chances of being approved for the best terms increase with the level of your credit score. Avoid making any unnecessary credit inquiries if your score is on the verge of falling into a lower tier.
Get Pre-qualified for An Auto Loan
Pre-qualifying is a relatively low-risk method of evaluating your loan options. Since it only necessitates a soft credit pull, your credit score won’t be adversely affected, and you can anticipate receiving rough estimates of potential interest rates.
As with the scant information available, keep in mind that these rates are not guaranteed and are equally accurate. Once you apply, it’s possible that the actual offers you receive have interest rates that are higher than what you were pre-qualified for.
When to Refinance Your Car Loan
Refinancing your auto loan may make sense for a number of reasons. However, you should only proceed when it is appropriate.
Refinancing is something to think about if interest rates on auto loans have decreased since you took out your car loan or if your credit score has increased and you can now qualify for a better rate.
If you’re going through a difficult financial time and need lower car payments to free up money, refinancing makes sense. Even with the same interest rate, you might be able to lengthen the loan term to reduce your monthly payments.
Instead of refinancing, which involves changing the size, timing, or interest rate of your current loan, you might consider applying for a car loan modification.
If a co-borrower needs to be added or removed from the loan, you should refinance as well.
The Bottom Line
Refinancing your auto loan has advantages and disadvantages. Your credit score may suffer briefly as a result. However, the financial advantages might vastly outweigh the damage to your credit rating. When you apply for refinancing, there are ways to lessen the negative effects on your credit score and aid in its recovery.
To prevent any surprises, become familiar with the procedure before deciding whether refinancing makes sense. To make a well-informed choice, research lenders, get prequalified, and run the numbers.
