Nevertheless, to refinance a car loan with bad credit frequently carries a high-interest rate that might not work with what you already have. If you look with lenders who allow you to pre-qualify with a soft credit check and you still can't find a refinance loan with better terms and a lower interest rate than what you currently have, there is no need to do a refinance; instead, you should stick with what you currently have or look for an alternative.
Why you should refinance a car loan
1. A lower interest rate can be obtained.
Finding offers from lenders that give consumers better interest rates than their current loans is one of the main reasons individuals choose to refinance their auto loans. When you refinance your car loan, even if you have a low credit score, you can discover lenders with a lower interest rate that is better than what you currently have.
2. Enhanced credit score
Your credit score would have grown if you had been consistent in making your debt payments over the months. You can acquire a better loan with a lower interest rate if your credit score has improved since you took out the loan. If you have a good payment history, your new lender will see you favorably.
3. Lower your monthly payments
if after making your monthly payments each month, you still have difficulty surviving with your leftovers, refinancing your loan could help you get a longer loan term and pay less monthly.
Nevertheless, the disadvantage is that with a bad credit score, you may not get lower rates as supposed, and this entails that you will have to pay more money in interest in the long run. On the other hand, refinancing for a longer term is better because it will help you maintain a good credit score as long as you don't miss payments.
4. Increase in car value
Cars depreciate quickly in value, but in a situation where there is scarcity and high demand for the same product you have, certainly, the price will increase. You can refinance your car loan when your car's value increases over your current loan amount.
How to refinance a car loan with bad credit
1. Check your credit scores and reports
Your credit score is what determines whether you qualify for refinancing or not. Be sure to know your credit scores and reports before embarking on refinancing, this will give you an edge during your search, to know what loan rate you qualify for and lenders that will accommodate you if your credit score is bad. Checking your credit score and report will help you discover any mistakes that can affect your score and disagree with a such report to rectify it.
2. Contact your lender
There is no harm if you reach out to your current lender and liaise with him concerning your challenges to consider a little drop in rates. You can even do a refinance with your lender on an auto loan with bad credit scores if the rate offer is considerable. It is easier to refinance a car loan with your current lender because they have your records already, and most times they turn out the best.
3. Shop around for bad credit lenders
Whatever terms and rates you get on refinancing auto loans from your current lender, you must shop around to compare rates from other lenders before you further your plans. First, check the lender's minimum credit score to know whether you fall in, also do a pre-qualification check to see if the lender will allow you to pre-qualify with a soft credit check without affecting your score. You may still find a better lender with more suitable rates than what you already have.
4. Apply for a new loan
Make sure you have gathered every necessary document before submitting it to your lender. Documents such as your current loan documents, proof of income, and employment verification. Other documents may include vehicle mileage, model, make, and identification number. Do well to provide these documents within the first 14 days because this will require a hard credit inquiry due to a bad credit score. This can cause a drop in your score, but if you can make early submissions of all documents, the impact will be almost insignificant.
Requirements for refinancing a car loan with bad credit
Besides qualifying for refinancing with a poor credit score from a lender, there are other requirements that lenders will consider before taking the risk to refinance your auto loan. Some of these criteria are:
Income: Your income flow is paramount in determining whether your request will go through or not, just like when you first applied for an auto loan. If you have enough money coming in as salary, you stand a better chance of refinancing your auto loan, because your lender wants to know if you will be able to pay back your debt.
Debt-to-income ratio (DTI): This is cumulative of the debts you owe in a month, divided by the income you generate monthly in a percentage. If you have a low debt-to-income ratio that is less than 50% of your total monthly income, you are likely to qualify for a refinance. Let's say you earn $4,500 monthly and your monthly debt is $1550, which is less than 50% DTI of your monthly income. You stand a better chance of getting approval from your lender.
Loan-to-value ratio (LTV): The loan-to-value ratio quantifies your car's value monetarily and compares it with your loan amount in percentage. If the value of your vehicle exceeds the amount you owe in monetary terms, you stand a better chance of getting approval for an auto loan refinance.
5 Factors that affect your credit score
Five major factors make up your credit scores, and a positive or negative impact on any one of them can either increase or decrease your scores.
1. Payment history: Your payment history is paramount in building up a good credit score, it accounts for about 35% of your credit score. Once you default on making payments over time, your credit score will drop.
2. Amounts owed: The amounts you owe have no negative effect on your credit score as long as you have enough dollars to pay them off; this makes up 30% of your score.
3. Length of credit history: Older accounts are preferable, so if you have new accounts it will affect your credit score negatively, this makes up 15% of your score.
4. Credit mix: If you have a mix of accounts, such as personal loans, mortgages, auto loans, and credit cards, it will affect your scores positively. This component makes up 10% of your score.
5. New credit accounts: This hurts your credit score, especially if you open an account in a situation where you have a bad credit score. It covers 10% of your score.
Methods of improving your credit score
There are a few things to observe in growing your credit score, if only you can stick to them, your scores will improve so you can get offers at low rates.
Consistency in payment: Once there is no bridge in making your stipulated monthly payment, your credit score will improve over time.
Pay more: As you become more consistent in making your monthly payments, paying more than the specified monthly amount of your debt will reduce your total debt and help you build a better credit score.
Spread your credit: Having multiple forms of credit and making consistent payments will generally improve your credit score.
Space your loan application: Although it is good to have multiple forms of credit, avoid applying for them at the same time because it will negatively affect your credit score. Give some time between your applications.
Alternatives to auto refinancing
You can trade in your car if you are having significant trouble making your payments and refinancing may not even be an option for you right now. If the value of your current vehicle is higher than what you owe, you can sell it to pay off your debt while using the remaining money to cover other expenses or refinance an existing loan.
Sum up
Since it might be challenging to refinance a car loan when you have bad credit, it is preferable to improve your credit score first.
Keep in mind that refinancing a vehicle loan with poor credit typically carries high-interest rates, meaning that in the long term, you will pay more in interest. If your current rate is greater than the rate you will receive when you refinance your auto loan with a different lender, it is still a sensible alternative.
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