A car payment is one of the biggest monthly expenses for many of us in the United States. Paying it off early may sound like a great idea, but can you actually do it? Does it come with penalties? Is it allowed by the bank or dealership that loaned you the money? Today, we’re answering the question, “Can I pay off a car loan early?”
This post has been written by our staff writer, Kate Underwood!
Can I Pay Off a Car Loan Early? What are the Benefits?
First off, in almost 95% of the cases, you can absolutely pay off a car loan early.
- Pay less overall
- Reduce debt
- Save for your next car
1) Pay Less Overall
You’ll pay less overall for a vehicle when you pay it off faster than the original term. Lenders make their money off interest charges, so the longer they can keep you on the hook for a loan, the more money they make.
2) Reduce Debt
Pay off your car loan early to reduce your overall debt. This can help your credit score and just give you greater freedom in your day-to-day life.
See this post for more tips on debt-free living!
3) Save For Your Next Vehicle
The average new-car payment in the U.S. as of Jan. 2020 was $550. A used-car payment was a little better, but still $393!
By paying off your car loan early, you can free up money to save for your next car. Put what you would have spent on the monthly payment into a savings account so that when you need it, you can buy your next car with less financing — or better yet, in cash.
What Are The Steps to Paying Off A Car Loan Early?
Believe it or not, lenders aren’t usually in a hurry for customers to pay off their loans early. So it’s not always as simple as “just pay it off as fast as possible.”
1) Read the fine print
When you ask yourself the question, “Can I pay off my car loan early?”, your first order of business is to read your loan agreement carefully. Checking the terms of your agreement is essential. Find out if your lender will charge you a penalty for prepaying your auto loan.
You should also find out whether your loan agreement uses simple interest or pre-computed interest.
- Simple interest = interest calculated based on the amount you owe
- Pre-computed interest = interest amount is fixed no matter when you pay it off
Some loans may offer a rebate or a refund on any prepayment penalties. Then again, they may not. Read the fine print to find out!
If you have any questions on the paperwork, call your lender’s customer service line to speak with a representative. Don’t make extra payments without getting the info you need.
2) Find out the exact penalty amount
If your lender does charge a prepayment penalty on the auto loan, the next step is learning how much the penalty will be. Again, read the loan agreement and/or call the office to be sure.
Run some simple online calculators to learn how much interest you’d save by prepaying your auto loan. Then compare that amount to the amount of the prepayment penalty.
- If the penalty is more or close to the amount you’d save, it’s probably not worth it to pay your car loan off early.
If you’re in this situation, you may try negotiating the prepayment penalty with your lender. I’ll admit, I’m not great at this, but it can’t hurt to ask. You never know; they might be worried enough about losing your business that they’d waive the entire fee, or at least reduce it.
Lenders are notorious for making prepayment difficult on borrowers.
Here are some things to watch out for:
- Lenders putting extra payments toward interest rather than principal
- Lenders changing the date your next payment is due after you make an extra payment
…neither of these options reduce the overall amount you’ll pay on your car, so don’t be fooled! Be sure to have all extra payment go toward the principle!
If you decide to prepay the loan, get clear with the lender.
Ask them a few key questions:
- How can I make extra payments on the principal balance of my car loan?
- Where should I send extra principal payments for my loan? (Lenders often require extra principal payments to be mailed separately from regular payments, to an entirely different address.)
- What paperwork do I have to fill out, or is there an online method for prepayment?
Don’t feel guilty about asking questions.
I have a hard time with this because I don’t want to look stupid to the lender…But not asking questions if you’re unsure of the process only hurts you! So be sure you know exactly how to prepay and then get it done.
If your lender offers an easy online “principal only” payment button, that’s great! But more often than not, lenders like to make it complicated. Jump through whatever hoops they put in front of you, and you’ll be fine.
4) Get everything in writing
If you pay off your car loan early, this may still take several months or years. Once you get close to the final payment or two, it’s a good idea to call your lender for the exact payoff amount.
Ask them how much, to the penny, you need to pay to be free and clear of your car loan. You might have to make your regularly scheduled payment of the regular amount, then send an additional check for the remainder.
After you’ve paid the car off in full, get the lender to put it in writing that you no longer owe them anything. Don’t take their word for it over the phone!
Tips for Paying Off a Car Loan Early
Here are a couple of quick strategies you can use when prepaying your car loan:
- Refinance your loan if it gives you a much lower interest rate
- Make biweekly payments (rather than monthly) to make the equivalent of one extra monthly payment per year
Paying off a car loan early gets you that much closer to living debt-free. So if your lender allows it, figuring out a way to pay it down faster could work to your advantage.
If the prepayment penalty is too high for you, use that lesson the next time you’re buying a vehicle. You could either pay in cash or request financing that won’t charge prepayment fees.
Are you ready to pay off your car loan early? Imagine what life would be life with no car payments!!
My name is Derek, and I have my Bachelors Degree in Finance from Grand Valley State University. After graduation, I was not able to find a job that fully utilized my degree, but I still had a passion for Finance! So, I decided to focus my passion in the stock market. I studied Cash Flows, Balance Sheets, and Income Statements, put some money into the market and saw a good return on my investment. As satisfying as this was, I still felt that something was missing. I have a passion for Finance, but I also have a passion for people. If you have a willingness to learn, I will continue to teach.