Some of the best ways to pay off a car loan include making extra payments, applying windfalls of cash to your loan, and auto loan refinancing.
Buying a new car is expensive, which is why many buyers take out a car loan to help them afford the cost over time. But car loans carry interest, which can reach the double digits depending on your credit score. As a result, you end up paying more for the car the longer you have the loan. So, many people want to learn how to pay off their car loans faster.
If your car loan is taking up a significant amount of your budget and causing you stress, paying it off faster can allow you to save a substantial amount of money. Learn more about the various strategies for how to pay off your car loan faster.
Key Takeaways
- Approximately 80% of new cars and 40% of used cars are purchased with auto loans.
- The average amount financed for new cars increased to $41,445 in 2022, up 17% from 2020.
- Interest rates can be in the double digits, causing monthly payments to increase.
- Making extra payments and refinancing could help you save thousands.
5 Tips to Pay Off Your Car Loan Faster
By paying off your car loan early, you’ll enjoy the following benefits:
- You’ll save money on interest.
- You can apply the amount of your car payment to other goals, such as your retirement or a down payment on a house.
- You’ll have a lower debt-to-income (DTI) ratio, making it easier to qualify for a mortgage or other forms of credit.
You can accelerate your repayment with these five tips:
1. Sign Up for Automatic Payments
Some lenders offer interest rate discounts if you sign up for automatic payments. The autopay discount can often reduce your rate by 0.25%. That discount may sound small, but over time, it can pay off. More of your payments go toward the loan principal rather than interest, and you can save money.
Use an auto loan calculator to see how interest rate discounts can help you save money.
2. Apply Unexpected Influxes of Cash
You may get unexpected bonuses or other windfalls throughout the year. Applying that influx of cash toward your car loan as a lump-sum payment can pay off a substantial chunk of your debt and allow you to save more money over time.
For example, let’s say you had a $40,000 loan at an annual percentage rate (APR) of 8.00%. With a six-year term, your monthly payment would be $701.33.
Now let’s say you received a tax refund for $2,500. If you applied the entire refund to the loan, you would pay off your loan five months faster. And you would save $1,445.16 in interest charges.
3. Switch to Biweekly Payments
One of the best ways to pay off a car loan faster is to make biweekly payments instead of monthly payments. To do so, split your current payment amount in two, and pay that amount every two weeks.
How does that help you? There are 52 weeks in a year. By making payments every two weeks, you end up making 26 payments, or the equivalent of 13 monthly payments. You basically make an extra payment each year with this strategy.
If you had $40,000 at 8.00% APR and a six-year term, switching to biweekly payments would allow you to save $1,153.16 in interest over the life of your loan. And you would pay off your loan two months sooner.
You can use an online biweekly payment calculator to determine how much you can save by making payments every two weeks.
4. Round Up Your Car Payments
Another easy way to pay off your car loan faster is to round up your monthly payment. Rounding up your payment by $25 or $50 can make a significant difference.
With $40,000 at 8.00% APR and a six-year term, your monthly payment would be $701.33. Increase it by $25 to $726.33, and you would pay off your loan three months sooner and save $484 in interest.
Increase it by $50, bringing the payment to $751.33, and you would pay off the loan six months faster and save $925.
5. Refinance Your Car Loan
If you have a car loan with a high interest rate, you could save money and get rid of your debt faster by refinancing your loan to one with a lower rate. If you have better credit than you did when you took out the original loan, you could qualify for a new loan with better terms than you have now.
For example, let’s say you refinanced your $40,000 loan at 8.00% APR over six years to a new loan at 6.00% APR with a five-year term. Due to the shorter loan term on the new loan, your payment would increase to $773. But the tradeoff is that you would pay off the loan a year sooner and save more than $4,000 in interest.
| Original Car Loan | Refinanced Car Loan | |
| Loan Amount | $40,000 | $40,000 |
| Repayment Term | Six Years | Five Years |
| Payment Amount | $701.33 | $773.31 |
| APR | 8.00% | 6.00% |
| Total Interest | $10,495.73 | $6,398.72 |
| Total Repaid | $50,495.72 | $46,398.72 |
Savings: $4,097
You can use auto loan refinancing to lower your car payment by selecting a longer loan term, but longer terms will cause you to pay more in interest.
Should You Pay Off Your Car Loan Faster?
Although paying off a car loan early can be a good idea, it’s not the best choice for everyone. Depending on your circ*mstances, making the minimum payments may be a better option.
When You May Consider Paying Off Your Car Loan Faster
- You have a high interest rate: If you have a higher interest rate, such as 7% or higher, interest can accrue rapidly on the loan. Making extra payments and paying off the loan faster can be wise because it will allow you to save more money.
- Your debt causes you stress: For some people, any debt can be stressful. If having no debt is important to you, paying it off early can be worth it for the peace of mind.
When It May Not Be a Good Idea to Pay Off Your Debt Faster
- You have a prepayment penalty: In some states, lenders can charge you an added fee if you pay off the loan early. These fees, commonly referred to as prepayment penalties, can be costly and reduce the value of paying off a loan ahead of schedule.
- You have other high-interest debt: If you have other debt with higher interest rates, such as credit card debt, paying off those accounts first will help you save more money.
Does it hurt your credit to pay off a car loan early?
When you pay off a car loan, it can impact your credit. That’s because paying off the loan may affect your credit mix. If the loan was your only form of installment debt, your credit mix is impacted, and your score will decrease. However, the dip is usually small, and your credit score can recover quickly.
If I pay extra on my car loan, does it go to principal or interest?
In most cases, lenders apply any extra payments to the accrued interest first. However, you can ask that your lender apply the extra payment amount to the principal instead.
What are the disadvantages of paying off a car loan early?
Paying off debt can be advantageous, but there are some drawbacks to keep in mind:
- Some lenders charge prepayment penalties.
- It takes up money that you could apply to other debt or goals.
- Your credit score may decrease when the loan is paid off.
The Bottom Line
With rising car prices and high interest rates, paying off your car loan early can help you save money. The best way to pay off a car loan involves extra payments, signing up for autopay, and refinancing to a loan with a lower interest rate.
But before you pay off your debt, make sure you consider the drawbacks of paying off the loan early. Check your loan agreement carefully to see what fees may apply.
Article Sources
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Experian. “State of the Automotive Finance Market Q4 2022,” Page 28.
Experian. “State of the Automotive Finance Market Q4 2022,” Page 6.
Experian. “State of the Automotive Finance Market Q4 2022,” Page 23.
Consumer Financial Protection Bureau. “Can I Prepay My Loan at Any Time without Penalty?”
Experian. “Will Paying Off a Loan Improve Credit?”
Consumer Financial Protection Bureau. “What Is the Difference Between Paying Interest and Paying Off My Principal in an Auto Loan?”
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