If you’re itching to get out of debt and paying off your car loan is next in line, some financial reshuffling can get you started in no time. A car loan, second to a mortgage, is one of the biggest loans you’ll encounter in life.
Before you get started, however, it’s important to review your loan agreement. Some lenders don’t allow additional payments or early settlement or charge a penalty fee to do so. If paying a fee is not an issue, or if the fee is lower than the interest that will be saved, there are a number of ways to tackle paying off your car loan faster.
Why pay off your car loan early?
Apart from getting out of debt, another reason to pay off your car finance early is that it’s likely to be expensive. Cars tend to depreciate in value and it takes a long time before the market value of the car is higher than the outstanding balance of the loan. If you were to have an accident resulting in the car being written off, you would be liable for the difference owing to the lender (known as finance shortfall).
You could also end up paying hundreds, if not thousands of pounds in interest over the loan period. By taking action to pay off the loan early, you can bring the finance period down, which in turn reduces the interest to be paid.
1. Refinance at a lower rate
It’s important to keep an eye on financial markets. If those interest rates drop, you may be able to refinance your car loan. Doing so could mean getting a loan with a better rate of interest, allowing you to shave a few months off the loan term, depending on the finance period.
2. Increase your monthly payments
If your lender allows increased payments on your car finance, you can ask them to increase your direct debits. For instance, if you’re currently paying £250 per month, you could ask the lender to increase payments to a new amount you know you can comfortably afford. If you increase your payments by £50 per month, in just a year that would equate to £600 – or more than two monthly payments.
Example: A five-year loan of £12,500 at 9% APR that still has 30 months left will have monthly payments of around £259.48. An extra £50 per month could shorten the loan term by five months.
3. Pay off a lump sum
Whether it’s a 13th payment in a year or you find yourself with a windfall, larger, one-off payments can make a significant difference to your finance term.
Example: Let’s use the same example as above:
- Initial loan amount is £12,500
- Monthly installments are £259.48
- interest rate is 9% APR
- The repayment term is 60 months (5 years)
By paying a lump sum of £2,000, the term could be reduced to 49 months, meaning you can pay off your car loan almost a year early.
4. Round up your payments
Rounding up your monthly payments can help to shorten your loan term. You could start small by rounding each payment up to the nearest £10, then increase it to the nearest £50 or £100 as you find ways to increase your income or decrease other expenses. An added bonus is that a rounded up figure is easy to remember and work into your budget.