Can I Pay Off My Car Loan Early?

If you happen to have some excess cash, you may wonder if it’s a good idea to pay off your auto loan early. An early car loan payoff can lower the total cost of your loan by reducing the amount of interest you pay. Nonetheless, it has some drawbacks you should be aware of. For example, you may incur a prepayment penalty or see your credit score drop. Depending on your situation, paying off your car loan early may or may not be a smart financial move. Find out more about early car loan repayment to make an informed decision.

Understanding the Pros and Cons of Paying Off Your Car Loan Early

Having an auto loan can be stressful, and you may want to pay it off early if you have extra money on hand. However, early car loan repayment may not make sense for everybody. Let’s look at the pros and cons of paying off your loan sooner.

Advantages

Save on Interest

Typically, interest is spread out over the term of your auto loan. Paying off your loan early can help you save on interest, as it reduces the amount of time the lender has to collect interest from you. Even if you make an extra payment every now and then, it can make a difference.

Own Your Vehicle Sooner

Technically, your lender is the owner of your vehicle until you’ve paid off your auto loan. An early loan payoff allows you to take ownership of your car and get the title in your name sooner. This means you can do whatever you want with the car, including selling or trading it in.

Improve Your Cash Flow

One of the main benefits of paying off your car loan early is that it can free up cash for other expenses. If you don’t take out another loan, you can use that money to pay down other debts or put it toward your retirement funds or vacation savings.

Disadvantages

Potentially Incur a Prepayment Penalty

Depending on your lender, you may have to pay a penalty if you pay off your car loan early. If this is the case, compare the cost of the penalty with the potential savings you can get from an early loan payoff. If the cost is too high, just continue making your regular payments and put your extra cash toward something else.

Lower Your Credit Score

Early car loan repayment can put an end to your streak of positive payment history. It may also make your credit mix less favorable to credit bureaus, which prefer to see both installment loans and credit lines. While an early loan payoff can lower your credit score, the potential dip is often small and temporary. Your score should improve over the long term due to a lower debt-to-income ratio.

How To Calculate the Benefits of Early Car Loan Repayment

Let’s look at an example to understand how much you can save by paying off your auto loan early. Suppose you took out a $20,000 loan with a 60-month term to purchase a new vehicle. Your interest rate is 5%, and your monthly payment is $377. If you decide to pay an additional $100 a month with 36 months remaining in your loan term, you can save $219 on interest. Also, you’ll pay off your loan seven months earlier.

What To Consider Before You Decide to Pay Off Your Car Loan Early

If you’re unsure whether you should pay off your auto loan early, you need to take your personal circumstances into consideration. The following are a few situations where early car loan repayment may make financial sense:

• You’re paying a high interest rate on your auto loan.
• You don’t have high-interest debt and want to free up cash to pursue other financial goals.
• You want to reduce your debt-to-income ratio for a big purchase, such as a new home.
• You have negative equity on your car due to a high interest rate or small down payment.
• You already have a solid emergency fund.

Financial Strategies for Paying Off Your Car Loan Sooner

Depending on how much excess funds you have, you can use one of these strategies to pay off your auto loan early:

• Pay off your loan in full: If you’ve received a big tax refund or bonus at work or have enough money saved up, you can pay off your car loan in full with one lump-sum payment. To do so, find out the 10-day payoff amount from your lender and make the payment online or by check to bring the balance to zero.
• Make a partial lump-sum payment: If you don’t have enough cash to pay off your outstanding balance in full, you can still save money on interest by making a partial lump-sum payment. This won’t lower your monthly payment, but it can considerably shorten the loan term.
• Increase your monthly payment: Even if you add just a small amount to your monthly payment, you can reduce the overall cost of your car loan. It’s up to you how much extra you want to pay, which can be anything ranging from tens to hundreds of dollars.
• Refinance your loan: If you have a high-interest auto loan and your current credit score allows you to get a lower rate, consider getting refinancing. Refinancing can help you save money and pay down your loan more quickly.

Get Expert Car Financing Advice From Volkswagen of Marion

If you reside in Marion, Illinois, and you need advice on car loan management, consider getting in touch with the finance department of Volkswagen of Marion. Our dealership has a devoted team of friendly and knowledgeable auto finance consultants who can answer any questions you may have about car financing, including early car loan repayment. If you’re thinking of refinancing your car loan to save money on interest, we can help you explore your options and choose a refinancing plan that suits your needs and goals. Contact us or visit our dealership to speak with our finance experts.

Car Loan Key by Mike Lawrence is licensed with CC BY-SA 2.0