Paying off your car loan early or before the full term allows you to save money, as your total interest will be lower – if your lender will allow prepayment without penalties. However, paying your car loan earlier may be difficult, but there are some things you can do to completely settle your loan ahead of time.
For one, you can have your current loan refinanced, make more frequent payments, make bigger monthly payments for the principal, and cancel unnecessary add-ons that only jack up your total debt. Note that even if you can afford to settle your car loan early, it may not work to your advantage if you don’t choose the right method. Thus, it’s important to study all your options well, and how they will affect your credit and finances.
Read on as we explore your options on how to pay off your car loan faster.
Can You Pay Off a Car Loan Early?
Note that lenders make money from the interest they charge on your loan monthly, and full prepayment means that the lender can no longer charge interest. Thus, some lenders resort to charging a penalty for paying off car loans early.
What Happens If You Pay Your Car Loan Off Early?
As mentioned, the lender may charge a prepayment fee to make up for the lost earnings from interest. Unfortunately, the prepayment penalty may be more than the interest you would have been charged for the rest of the loan term. Thus, you would actually be paying more by settling the car loan early.
Should You Pay Off Your Car Loan Early?
You can save money by paying off your loan early, provided you will not be charged an excessive prepayment fee, and you’re not burdened by other high-interest debts. Making extra payments can help lower your total debt.
9 Ways: How to Pay Off a Car Loan Faster
There are various ways to pay off your car loan faster, and you don’t have to stick to just one. Assess each method, and how much you can save with each one. Then apply those that will give the most savings.
#1 - Settle your car loan in full with one lump sum payment.
Full payment with a lump sum amount will settle your debt once and for all. First, ask your lender how much your total balance would be, including the interest due, if you would settle in full.
Key Takeaway:
This option will work if you can afford it since it will require you to shell out a big amount of money.
# 2 - Refinance your existing loan.
Refinancing is a fast way to settle your existing loan. If you have a good credit history and score, you may be able to negotiate for a more preferable interest and terms.
If you refinance with a longer term, even with lower interest, you may end up paying more, although your monthly payments will be lower. But, if you refinance with a shorter term and lower interest, your total payments will be lower.
Key Takeaway:
You will be able to save money from refinancing if you can get a new loan for a lower interest and shorter term. You may pay a bigger monthly amortization, but you will be able to settle your car loan faster.
# 3 - Make payments every other week.
By remitting half of your monthly due every other week, you’ll be paying the equivalent of 13 monthly installments in 1 year, instead of just 12. This will not only make the term shorter, but you may also save money in interest payments.
Key Takeaway:
Making more frequent payments will shorten the loan term, and at the same time allow you to save on interest.
# 4 - Make a significant additional payment.
Any additional payment you can make will help reduce the principal, that will, in turn, reduce your interest payments. Even a few hundred dollars will help. If you combine this technique with paying every other week, you can significantly lower your total payments and pay off the loan faster.
Key Takeaway:
Any additional payment can help reduce the loan principal. And, you stand to save more if you pay bi-weekly.
# 5 - Pay a partial lump sum amount.
Making one partial lump sum can significantly shorten the loan term. And because of the shorter term, the interest charged on the loan will also be smaller.
Key Takeaway:
A lump sum partial payment will shorten the loan term and considerably lower the total interest, but it will require a bigger amount of money.
# 6 - Make extra monthly payments.
Making one partial lump sum can significantly shorten the loan term. And because of the shorter term, the interest charged on the loan will also be smaller.
Key Takeaway:
Get significant savings on interest and cut the loan term by making even small extra payments monthly.
# 7 - Cancel any add-ons you don’t need.
Cancel any extra optional protection added to your car loan such as an extended warranty, wheel and tire warranties, gap insurance, or service contract. Once canceled, you should be given a pro-rated refund for the unused portion. However, instead of getting a cash refund, just apply it to the balance of your loan. You'll then have a lower amount to pay in case you intend to settle in full with a lump sum payment.
Key Takeaway:
Extra car protection only increases the amount of your loan. Canceling will lower your total debt.
# 8 - Request larger amounts to be applied to the principal.
Ask the lender how they handle extra payments as some lenders apply additional payments on future interest. If possible, request that all extra payments be applied on the principal instead. With reduced principal, the interest will be lower.
Key Takeaway:
It’s important that you clarify with the lender where the extra payments will be applied. Request that these be applied to the principal to lower your interest and total debt.
# 9 - Don’t miss monthly payments.
You should religiously make monthly payments even if you’re ahead of schedule, if possible, with an additional amount. This will result to lower interest overall as more will be applied to the principal. Keeping your payments regular even when not necessary, will make paying the loan faster.
Key Takeaway:
Making regular payments even if you’re ahead in payments will help you save on interest, while shortening the loan term.
There are numerous ways to pay off your car loan early, and you don’t have to stick to only one. You can apply several methods that will help you save. However, you should carefully study each option, and use the ones that will help you save the most.
When Not To Pay Off Your Car Loan Early
Paying your car loan early relieves the burden of paying monthly. However, there are cases where instead of helping, prepayment can hurt your finances. Thus, it may not always be a wise decision.
You should refrain from early payment in the following cases:
- The lender charges a prepayment fee. – A prepayment penalty is the lender’s way to recover the future interest they would lose. It’s still alright to proceed with prepayment if the penalty is smaller than the interest you would pay over the term of the loan.
- Pre-computed interest is applied on your loan. – In this arrangement, the interest is front-loaded, meaning a bigger part of the interest is applied during the early months, and the last few remaining months carry less interest. Early payment of the loan will not give you the benefit of lower interest overall.
- You don’t have a significant amount of debt. – Prepayment may not be much of an advantage if your total debt is small and manageable, anyway, and it doesn’t take a heavy toll on your finances. In fact, you may even improve your credit score with a long-term loan such as a car loan.
A Word of Caution:
Your credit utilization ratio accounts for 30% of your credit rating, which can get lower if you pay off your loan. If you have a high DTI (debt to income) ratio, and other debts, eliminating one account will improve your credit score.
Consider How Paying Off A Car Loan Early Affects Your Credit Score
Fully paying your car loan can help, but it can also hurt your credit score, depending on the circumstances.
When Paying Off A Car Loan Helps Your Credit
If you have a considerable DTI ratio, then prepaying a big debt such as a car loan can help improve your credit score. However, other options like putting your money on savings or paying off higher interest debt may be wiser.
When Paying Off A Car Loan Hurts Your Credit
Every time you close one credit account, it will lower your score by a few points. Although it is normal, if you’re torn between categories, delaying paying off your car loan may be advisable if you need to keep your current score for some other large purchases.
Final Verdict
While paying off your car loan early may allow you to save money, that is not always the case. There are a few cases when it is better not to. Follow the guide we provided in this post on when to go ahead and fully settle your car loan, and when to refrain from doing so.
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