Does Refinancing an Auto Loan Hurt Your Credit?

Refinancing an auto loan involves paying off your existing loan with a new one. Refinancing can be a good way for car owners to save money through a lower interest rate, reduce their monthly payments by extending their loan term, or even tap some of the equity they have in the form of cash.

An auto loan refinance can impact your credit in both positive and negative ways. Still, as long as you responsibly manage the process and the new loan, any negative impact should only be temporary. 

Understanding how refinancing an auto loan can both hurt and help your credit can help you avoid potential pitfalls and continue to build and maintain a good credit history. Here’s what you need to know before you apply.

How does refinancing an auto loan hurt your credit?

Refinancing an auto loan involves applying for a new credit account, which can hurt your credit in some ways. Here’s what you can expect.

Credit inquiries 

Anytime you apply for a loan, the lender will typically review one or more of your credit reports to evaluate your creditworthiness. This credit check results in a hard inquiry, which is added to each credit report the lender reviews. 

According to FICO, a new hard inquiry typically knocks fewer than five points off your credit score. But while hard inquiries remain on your credit reports for two years, they only affect your FICO credit score for half that time. 

Remember, though, that the best way to ensure you get the best deal on an auto refinance is to shop around, which means multiple hard inquiries. Generally speaking, having multiple hard inquiries on a credit report within a short period can have a compounding negative effect on your credit score. 

The good news is that if you complete your rate-shopping for a single type of loan, such as an auto loan, within 45 days, FICO will combine them into a single inquiry for credit-scoring purposes. 

New credit account

If you get approved for the loan and accept it, a new credit account will be added to your credit reports. The length of your credit history is one of the factors that influence your credit score, including the average age of your accounts. Each time you open a new account, that average goes down.

Also, note that if you get a cash-out auto refinance loan, you’ll have more debt with the new loan, which could negatively impact your credit score. 

In both cases, however, it’s difficult to estimate exactly how much your credit score might drop. While FICO is clear about the impact of hard inquiries, it doesn’t provide specifics about new accounts and additional debt. 

In general, people with younger credit histories and less debt can expect a larger drop in their credit score compared to people with more established credit histories and more debt. But with time, your average age of accounts will naturally improve, helping your score rebound.

Missed payment

The auto loan refinance process can take weeks, so it’s important to keep paying your original loan until you’ve confirmed it’s been paid off. Once your new loan is finalized, you’ll want to set up automatic payments immediately. 

If you somehow miss a payment during the process, and it goes unpaid for 30 days or more, the lender could report the late payment to the credit bureaus. 

Because your payment history is the most influential factor in determining your credit score, even a missed one could drop your score by as many as 100 points or more. 

Moreover, late payments remain on your credit reports for seven years. While their negative impact can diminish, especially if you commit to paying on time going forward, it can still take a few years to fully recover. 

Can refinancing an auto loan help your credit?

While there are some ways an auto loan refinance can negatively impact your credit score, there are also some potential advantages to consider:

• More affordable payments: If your budget is tight, getting a lower monthly payment—either through a lower interest rate or a longer repayment term—could make it easier to keep up with your payments and avoid the danger of missing one.
• Cash can help you pay down other debt: If you have significant equity in your vehicle, you could use the cash from a cash-out refinance to pay down high-interest credit card debt—reducing your credit utilization rate or the percentage of your credit limit that you’re using at a given time, can have a significant positive impact on your score. 

In both cases, the actual impact on your credit score will depend on the current makeup of your credit profile and other actions you take. But in general, practicing good credit habits, including paying on time and minimizing credit card debt, can help you establish an excellent credit history.

Ask the expert

Erin Kinkade

CFP®

Although the refinancing will add a new loan application, hard credit inquiry, and potentially lengthen the loan term, your credit score should rebound and possibly improve within six months of making on-time payments.

How to minimize the credit impact of refinancing an auto loan

In most cases, car owners looking to refinance their auto loan don’t need to worry about any major ramifications for their credit scores. But if you want to make sure you check all the boxes, here are some steps you can take to minimize potential negative effects:

• Know your credit score: Auto loans are available to borrowers across the credit spectrum, but each lender has its minimum criteria for eligibility. Knowing where you stand can help you focus on lenders more likely to approve your application.
• Get pre-qualified: Whenever possible, get pre-qualified with an auto lender before submitting an official application. With the pre-qualification process, you can get a rate quote with a soft credit check, which won’t impact your credit score.
• Be mindful of the rate-shopping period: With 45 days to shop around, you’ll have plenty of time to find a good deal. But if you procrastinate or get distracted and fall outside of the rate-shopping period, you can expect your credit score to drop a little more.
• Minimize other credit applications: If you apply for other types of credit, including loans and credit cards, around the same time as your auto refinance, the negative effects of inquiries and new accounts can compound.

Is refinancing an auto loan worth it due to the credit impacts?

For the most part, the negative impacts of an auto loan refinance are both negligible and temporary, so it’s important to focus on your overall financial health to determine whether it’s the right move. 

In particular, refinancing an auto loan could be a good move in the following situations:

• Your credit score has improved since you took out the original loan.
• Market interest rates have dropped significantly since you took out the original loan.
• You have significant equity in the vehicle and want to use it to pay down higher-interest debt.
• Your budget is tight, and you need to reduce your monthly payment.

If you do have plans to extend your repayment term, however, it’s important to keep in mind that doing so will increase your total interest charges. Consider this option only if the benefits of a lower payment outweigh the costs of extra interest.

Alternatives to refinancing

Depending on your situation and financial needs, here are some other options you may consider:

• Switch to a less expensive car: If your monthly payments are too high, trading in the vehicle for a cheaper one could give your budget more relief than an auto refinance loan. Just note that applying for a new auto loan could have the same effects on your credit as a refinance loan.
• Ask for a loan modification: If you’re struggling with your payment and refinancing won’t solve your problem, contact your lender and ask about a loan modification, which could involve a lower interest rate or longer loan term to make your payment more affordable. Remember, though, that this could harm your credit because it means you’re no longer paying as you originally agreed. 
• Make extra payments: If you just want to focus on paying down your auto loan, consider adding extra monthly payments to eliminate it as quickly as possible. If you have other debts you want to pay off, you could even consider an accelerated debt repayment approach, such as the debt snowball or debt avalanche method. This process typically won’t negatively impact your credit score. 

Before you decide about your auto loan, carefully research and compare all of your options to determine which one best meets your needs and goals.