Does refinancing a car hurt your credit?

Koh Sze Kiat/ Getty Images; Illustration by Austin Courregé/Bankrate

Refinancing a car loan means your credit will take a temporary drop. When you take out any new loan – including an auto refinance loan the lender typically does a hard credit check. This can mean your credit score drops a few points.

But don’t steer clear of it just because of a temporarily lowered score. If you can secure a better auto loan rate, it could be a sound decision that results in cost savings or much-needed financial relief.

How does refinancing an auto loan affect your credit?

Refinancing a car loan can lower your credit score temporarily, but it may result in an improved credit score over time if you make payments on time. A lender will need to do a hard inquiry to confirm you qualify, which is the primary reason you will see it fluctuate.

It can also decrease the average age of your accounts and act as a new account on your profile. Essentially, refinancing restarts your car loan. That can make it harder to qualify for other types of credit in the short term.

• It generates hard inquiries: Each time you apply for a loan, a hard credit inquiry is generated. This could result in a slight dip in your credit score. Hard inquiries remain on your credit report for up to two years but only impact your score for up to 12 months. Consequently, refinancing a car loan — which involves applying for a new loan — could temporarily ding your credit score.
• It lowers your accounts’ average age: Refinancing also lowers your average age of accounts, leading to a possible decrease in your credit score. The good news is account age only counts for 15 percent of your credit score under the FICO model. Your score should bounce back quickly if you responsibly manage your new auto loan and other debt accounts.
• It has more impact if reported as a new loan: If your loan refinance is reported as a “new” loan, it will more significantly impact your credit profile. The refinance will not only generate a credit inquiry but also have the added impact of creating a new “open date” on your profile. When a new open date shows up, it tells the credit agencies you have taken on a new debt obligation, increasing your overall debt load.

How long will my credit score be affected by refinancing?

Even though refinancing a car loan impacts your credit score, these effects are only temporary. Within a few months of uninterrupted, on-time payments, your credit score should return to where it was before you refinanced. In some cases, it may even increase slightly. If you have any hard inquiries related to your refinancing, these score impacts will fall off entirely within a year.

<insight box> Bankrate tip

Use Bankrate’s refinance calculator to determine whether it is the right time to finance.

How to limit harm to your credit score

Refinancing may lower your credit score. Assess whether it’s the right time to refinance and consider ways to minimize the impact on your credit score.

• Get prequalified: Shop around to find the best deal on refinancing. Once you have a shortlist of preferred lenders, apply for prequalification to view potential financing offers without affecting your credit score.
• Apply within a certain window: If you submit loan applications within a 14-day period, most credit scoring models will group them into a single inquiry. Depending on the credit scoring model, this window could go up to 45 days. This is called rate shopping and can also minimize the impact on your credit score.
• Pay on time each month: The most significant component of your credit score is your payment history. It accounts for 35 percent under the FICO model, so paying your loan on time each month will help your credit score bounce back.
• Wait to open additional credit accounts: Your credit age will decrease when you refinance. Holding off on opening new credit accounts after refinancing will help improve this number and possibly raise your credit score over time.
• Consider Experian Boost: This optional program means you can help boost your credit score by including payments on day-to-day bills like streaming services, rent and utilities. Experian Boost participants have a reported 13 points added to their FICO 8 credit score.

Is refinancing a car worth it?

Refinancing and car can be worth it for some, but the cost may outweigh the benefits for others. To get the most use out of refinancing your auto loan, you will need to qualify for a lower average rate or monthly payment — or both.

If average auto loan rates have dropped recently or you have improved your credit score, you could qualify for a lower rate. A lower interest rate will mean paying less overall. It may also lower your monthly payment, making it more affordable for your budget.

You can also opt to extend your loan term to lower your monthly payment, although this isn’t recommended. A longer loan term often means paying more interest and potentially becoming upside-down on your auto loan. And if you are close to paying off your auto loan, will face prepayment fees or have an older vehicle, it may be better to simply pay off the loan instead of refinancing.

The bottom line

The choice to refinance your car loan has benefits and drawbacks. Although it can temporarily hurt your credit score, the financial benefits may significantly outweigh the damage. There are also ways to minimize the impact on your credit score and help it rebound when you apply for refinancing.

Before deciding if refinancing makes sense, familiarize yourself with the process to avoid surprises. Also, explore auto loan refinance rates, get prequalified and run the numbers to make an informed decision.