When should you refinance a loan

March 27, 2018
Refinancing a loan or consolidating debt can sometimes be a good idea. However, in many situations, changing the terms of your loan or changing your debt structure might not be as helpful as you think. Occasionally, you might be making it more difficult to get out of debt.
When should you refinance a loan

Let’s take a closer look at when you should consider refinancing when you should consolidate your debt and what you should do if you decide that refinancing is not the best option.  

When should you refinance?

You should consider refinancing if interest rates have dropped. A small decrease in interest rate might not make that much of a difference, but if you can get a rate that is around 2% less than your current rate, refinancing could lead to lower monthly payments or a shorter loan term.

When you refinance, you should be aware of any extra fees associated with the process. These could negate any gains that you make by getting the lower interest rate.  

Another reason to refinance or consolidate debt is that your credit score has improved. Perhaps when you bought your car or home, you had a mediocre credit score. If your score has improved by 100 points or more, you may qualify for a lower interest rate. Again, if the new rate is 2% or less than the old rate, refinancing or consolidating could be very advantageous.  

You can also think about refinancing for more-negative reasons. For example, perhaps you have lost your job, and you need to lower your monthly payments. You may be able to do this by refinancing and increasing the length of the loan. This will mean that it will take longer to pay off, but you may be able to obtain more-manageable monthly payments. If you get another job in the future, you can refinance again OR make more than the minimum payment on the loan each month. 

What if you cannot get a 2% interest rate drop? 

If you do not refinance or consolidate, then there are other ways to manage your debt. You could try the “snowball” method. This debt reduction strategy involves targeting accounts with the lowest amount of debt first. For example, if you have two credit card accounts and an auto loan, you would target the credit card account with the lowest balance first, while only making the minimum payments on the other card and loan. After that first card was paid off, you would focus your efforts on the second card. When that was paid off, you would focus on the one remaining auto loan.  

One way to pay off debts of less than $1,000 is to get an online personal loan. These loans are often easier to pay off because you make installment payments instead of minimum payments, and many online money suppliers do not do a credit check, so you can consolidate your debts even if you do not have a stellar credit score.