How to pay off your car loan faster and when to wait
Provided your lender doesn’t charge a prepayment penalty, paying off your car loan faster is a great way to save money. That means less interest paid – and when you’re done, you should have a few hundred extra dollars in your budget each month.
But getting there can be difficult. There are a few tactics you can use to pay off your loan faster. However, even if you can, it could put you in a more difficult financial situation if you are not careful with your approach.
6 ways to pay off your car loan faster
There’s no one way to pay off your auto loan ahead of schedule. In fact, it makes sense to vary your approach. Once you have an idea of how much you could save, there are a few ways you can pay off your car loan faster.
1. Refinance with a new lender
Refinancing can be an easy way to pay off your loan faster. If you opt for a shorter loan term, you may be able to keep the same monthly payment, provided you get a lower interest rate. Even if you do not make additional payments or do not round up your payments, you will naturally pay off your car loan more quickly.
2. Make payments every two weeks
Although it may not seem like much, paying twice a month rather than once will get you to the finish line faster. It will also help you save on interest. This is because interest will have less time to accrue before you make a payment – and because you will systematically reduce your total loan balance. This helps you get closer to an early repayment date without significantly increasing the amount you spend on your loan each month.
3. Round your payments to the nearest hundred
Likewise, rounding up your payments will have a small impact from month to month, but a substantial change overall. By rounding to the nearest hundred, or at least to the nearest whole number, you will gradually reduce the capital of your car loan. You’ll also be ahead of schedule, which will keep you ahead of the interest and get you a faster win.
4. Disable unnecessary add-ons
If you added optional protection like gap insurance, extended warranty, or service contract to your loan, contact your provider and cancel them. You should receive a prorated refund for the remainder while reducing your monthly payment. But rather than putting that repayment in your pocket, apply it to your loan. This way you will owe less overall and get a lump sum payment.
5. Make a significant additional payment
Tax returns, bonuses, and other large sums of money can go towards your car loan. Anytime you can lower your principal by a few hundred dollars, it’s probably worth it. Just like rounding up your payments and paying every two weeks, this will prevent interest from accumulating. As your loan balance decreases, more of your payment will go to the principal, causing you to prepay.
6. Pay monthly
Even if you’re ahead of your schedule, you should still repay your loan every month. This will prevent interest from accumulating, which means that more interest will be invested in the principal, which will further reduce the interest you pay. And keeping regular payments when they’re not needed will cause your car loan to be paid off early.
When not to repay your car loan in advance
Paying off your car loan sooner means an extra few hundred dollars in your pocket each month. But in some cases, you might have a negative impact on your finances more than help – so it’s not always the best decision.
Avoid repaying your loan early if:
- There is a prepayment penalty. A prepayment penalty essentially punishes you for making extra payments or paying off your loan in full early. It’s the lender’s attempt to offset the interest you would have paid had you been on time. If there is a prepayment penalty, make sure it won’t cost you more than you would otherwise pay in interest.
- Your loan uses pre-calculated interest. Pre-calculated interest takes precedence over the interest you pay each year, so the first month is a bigger share than the month before. When you prepay your loan, you are not significantly reducing the cost of your car loan. In this case, it may be best to stick to the loan schedule.
- You don’t have a lot of debt. Although it may seem counterintuitive, your credit score is calculated based on the types of debts you have and the length of your accounts. Since car loans are long-term debt, making regular payments for years will help keep your credit score high.
Caution : paying off your loan can lower your credit utilization rate, which is about 30% of your credit score. If you have other debt and a high debt-to-income ratio (DTI), deleting an account should help improve your score.
Ways to lower your monthly car payment
Besides refinancing your loan, there are two ways to lower your monthly payments: defer them or request a loan modification.
Deferment allows you to skip a payment if you are having short-term financial difficulty. Lenders may offer one to three months of deferment to help you. But deferment only moves the payments to the end of your loan, so you’ll still have to catch up eventually. You’ll also be responsible for interest, so it’s more expensive in the end.
Lenders may be less willing to modify your loan, but it doesn’t hurt to ask. Like refinancing, loan modification will change the terms of your loan by extending your term or lowering your interest rate. If you can get your loan modified, you could reduce your monthly payment without having to apply to a new lender.
Paying off your auto loan early may not always be the best decision. If you were to face prepayment penalties or a potential hit to your credit score, the savings wouldn’t be worth it.
But if you want to get out of debt, eliminating car payments is one of the quickest ways to make room in your budget. Refinancing – or simply making extra payments – are the best ways to pay off your car loan faster. Even if it’s just a few more dollars a month, you’ll reduce your debt load and could reduce your loan by a few months.