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A majority of Americans have a plan to reduce their personal debts within specific timelines, based on a poll conducted by Northwestern Mutual. 45% of Americans expect to pay off their debt in 1 to 5 years, compared to 9% who expect to pay debts for the rest of their lives. 34% of the respondents expect to pay off their debt in 6 to 20 years. Only 12% of the respondents said that they do not know how long they will be in debt.
When you refinance a personal loan, you take out a new loan and use the proceeds to pay off an existing loan. You can refinance a personal loan at any time, but it is most advantageous for borrowers who have improved their credit scores since applying for their initial loans and will qualify for a lower interest rate.
How Does it Works?
In simple terms, refinancing is trading one debt for another, at a bank that’s different from the other one, with new terms and conditions. Refinancing a loan also gives you the ability to place your old debt into a new one that has better terms and conditions.
The term refinance is also in reference to changing the mortgage on your home. Some people call it remortgaging. Moreover, this type of loan is subjected to refinancing because of its extended tenure and how much it changes from when you initially get the loan to the time it takes for you to repay the loan in its entirety.
Overall, you can refinance any loan that’s in your favor. You can do this for credit cards too; it’s known as a balance transfer because of the type of debt. Now that you have a good grasp of what it means to refinance, let’s talk about how you can take advantage of refinancing.
How Soon Can You Refinance?
Generally speaking, you can refinance a personal loan at any time. However, refinancing quickly can have a detrimental impact on your credit report. Additionally, you will need to factor in the costs of early repayment and setting up your new loan.
Unless there are far more attractive rates, it is not likely to be a good option to refinance for at least the first six months. This will allow you to show a pattern of making the repayments on time to offset any potential damage from hard credit pulls in a short period.
Can You Refinance With The Same Bank?
This will depend on your bank’s policies and the terms of your existing loan. In most cases, banks will often allow borrowers to apply for a new personal loan and pay off the existing loan with the proceeds. Just be aware that there can be some drawbacks. If there are any early repayment fees on your existing loan, the same bank is not likely to offer to pay the fees as an incentive, as you may find with a competing bank.
Additionally, since you are already a customer, you may struggle to get a much better rate.
Refinancing Vs Debt Consolidation – What's The Difference?
It's not exactly the same thing.
Even though they function in the same way, you can pay off more than one loan by consolidating and only one loan by refinancing. You may come across people using these two terms interchangeably.
There are a number of factors that influence personal loan APRs. One of the factors with the most weight is credit score. If you have a lower credit score, you represent a greater risk to the lender and this is reflected in the rate. In this chart compiled with LendingTree customer data, you can see that those with a 720+ credit score pay an average of 7.63%. At the other end of the scale, those with a poor credit rating of less than 560, the rate shoots up to an eye watering 113%.
Advantages of Refinancing
Refinance a personal loans is a way to replace the current loan. The new loan funds are used to repay the old one. A personal loan refinance offers many benefits, including:
- You have the chance to obtain a lower interest rate – You may be paying more than you are currently paying on your loan. A lower rate may be available for you if your credit rating has improved since the first time you took out a personal loan. You could save money by getting a lower interest rate on your loan.
- Reduce the dollar amount of your monthly payment – You can extend the term of your loan. If you are having trouble making your monthly payments due to a 36 month loan term, refinancing to 48 months may be an option. You may also pay more interest if you extend the loan term.
- Reduce the number of payments – You can switch from a 36-month repayment term to a 24-month repayment period. You may be able to afford more monthly payments to repay your loan sooner if your financial situation has changed.
Disadvantages of Refinancing
- You could end up paying more – Refinances with longer repayment terms may be more expensive if you are already paying interest on your existing loan.
- Extra fees may apply – Personal loans may be subject to additional charges by some lenders, such as origination fees. It could result in a loss of savings if the amount is higher than the interest rate. Some lenders also have prepayment penalties. Although not very common, refinancing to a loan with better terms could be more expensive.
- Credit score could be affected by this – Lenders will also conduct hard inquiries to verify your credit when you refinance. It's temporary however. It could cause a drop in your credit score. You may be charged higher rates if you anticipate needing another loan, such as a mortgage, in the future.
Is It Good to Refinance a Personal Loan?
This will depend on your circumstances and the current market. If you finalized your loan when interest rates were higher, refinancing could allow you to access a lower rate. Refinancing can also be a good idea if your credit score has increased in the intervening period. This will also allow you to access more preferable terms.
However, if your rate is reasonable and your credit score has not really changed, it may be a good idea to stick with your original personal loan rather than refinancing.
In order to refinance a personal loan, you have to do the same steps as you would for applying for a personal loan. Things, like building your credit, choosing the right lender, and searching for the right loans, are examples of what you have to do.
If the lender gives you the right to refinance, you’ll get the new loan. Afterward, you have to close out the old one and begin making payments on the new one.
Below are the steps you need to do in order to refinance your personal loan:
1. Improve Your Credit
Before you choose to refinance, think twice if you really need to or not. If you have a strong credit history, then it’s a good move to refinance.
Before you apply, do what you need to do to increase your score. The main factors that impact your credit score are your ability to make on-time payments amount of credit you available that’s based on your credit limit. Moreover, it’s wise to get your free credit report and dispute errors that you find.
If you pay your monthly payments on time and your credit score continues to increase, you are in a better position to request a loan refinancing.
2. Compare Offers From Lenders
After you are done reviewing your finances and increasing your credit score, you are ready to contact you lenders of choice and compare their offers. Also, let the lender know upfront that you are willing to go with a different lender if you don’t like what the new interest rate is going to be.
- Refinance Loan Amount – The amount of money the lender will loan you is going to be different across all boards. If one lender offers you more money than the other, that doesn’t mean that’s the best loan to choose. Remember that it costs more to borrow the money than it does to spend it. If you are able to finance a part of the investment yourself and borrow the other amount you need, this is a good option for you.
- Fees and Charges – Every lender has their own way of charging fees and other charges. Research the competition to see what they are charging, and then choose the lender with the lowest fees.
- Loan Terms and Conditions – Lenders also differ from one another regarding their terms and conditions. For instance, one lender may offer a loan with a fixed rate while the other may offer a variable rate. Could there be a fixed term as well? Moreover, find out everything you can about the loan before applying.
3. Review Your Loan
As with any other loan, it takes a lot of time and hard work to refinance a personal loan. The process consists of tons of paperwork. You also have to review over everything before you finalize the loan. This process will be even longer if you decide to go with a new lender instead of sticking with the old one.
Furthermore, you’ll have to hand over information such as your credit report, proof of income, debt, and other financial information. It would be best if you ask your lender of choice a lot of questions to ensure that you are well-informed.
Remember to always get your questions answered and read the fine print.
Here are some things to watch out for:
- Prepayment penalties. Most lenders usually don’t charge anything if you pay off the loan early, which is known as an exit fee as well.
- Automatic withdrawals. If your lender requires automatic payments from your bank account, we recommend that you set up a low balance to prevent overdrafts.
- APR surprises. The annual percentage rate consists of the whole cost of refinancing a loan, along with the origination fees, which are things that should be clearly addressed.
- Payments are reported to credit bureaus. When lenders report on-time payments, it’s positive on your credit report.
- Flexible payment features. Lenders will also give you the option to choose your payment due date. Some will even waive late fees on occasions or won’t require a payment from you in times of hardship.
- Direct payment for creditors. There are also lenders out there that will send borrowed finds straight to the creditors. This is really good for individuals who are consolidating debt.
4. Close Out Your Original Loan
After your lender approves you for a refinance, they require you to write your signature on the loan documents. It’s important to note that you need to close out your former loan first. If your loan refinance is with the same lender, they will close out your former loan for you.
If your loan-refinance is with a new lender, it is your responsibility to close out your former loan. No matter what your loan refinancing process looks like, closing your former loan is a crucial step. If you don’t, you will suffer serious consequences.
Once the proceeds of the new loan have been distributed, you can use them to repay the original loan balance. You may also be subject to a prepayment penalty depending on the terms of your original loan. Wait for confirmation from your lender that your account is closed. This will allow you to avoid additional fees and penalties.
After you have repaid your original loan, start making regular payments on your new loan. You can sign up for automatic monthly payments if you're able to so that you don’t have to remember to make your monthly payment. Regular on-time payments can help to repair any credit damage you sustained during the application process. They will also help you build credit history over the long term.
When to Refinance a Personal Loan?
There are many reasons why people will look into refinancing his or her personal loan. For instance, they may want more flexibility with their money, consolidate debt, or simply to get better term options.
Moreover, whatever the reason why you a loan refinance is, it’s important for you to make the best decision possible.
1. You Cannot Afford the Repayments
At times, financial hardship can arise. For instance, you may have suffered a salary decrease or you have another bill that takes a lot of your money.
In other words, you are not able to pay the amount you normally paid without complications. Since you can’t just wash debt away, you have the option to get another loan with a longer term or lower your interest rate which results in you having lower, monthly payments.
2. Accessing More Funds
It’s possible that you need to borrow an additional amount than what you previously thought when you took out your first loan. Under this circumstance, you may not have to refinance your personal loan. All you have to do is request a personal loan amount increase instead. Please be aware that in doing so may increase your repayments and loan term.
3. Changing Your Loan
Figuring out what area of your loan you want to modify is a great start when you’re wondering whether or not refinancing is the best choice. Using our refinance breakeven calculator will help you to determine whether or not you should refinance your personal loan.
Moreover, input any closing costs, such as a loan origination fee, into the “other closing costs” section. Even though it’s not fancy, it’s a great starting point.
Does Refinance Impact Your Credit Score?
Refinancing your personal loan can have a negative impact on your credit score in a number of ways. First, a hard credit check is required when refinancing. This is usually a minor drawback and often outweighs the benefits of refinancing. You should shop for loans in a short time frame, usually between 14 and 45 business days. Credit bureaus will not consider multiple applications for reporting purposes.
Refinances can also cause a drop in credit scores. The impact of closing the account will depend on the date the original loan was granted and if it was in good standing. Borrowers can usually regain their credit standing by simply making timely payments on the new loan.
Do I Have Any Other Alternatives?
When it comes to refinancing a personal loan, there are just three options: The first option is to pay off the balance of the loan and cancel the account. However, because this is rarely a possibility, some borrowers choose a second, less enticing option: defaulting on the loan.
Some borrowers, fortunately, can use balance transfer credit cards to transfer their outstanding loan balance and pay it off over time. Borrowers with a strong to excellent credit score may be eligible for a 0% interest rate for a 12-month or longer introductory period. This makes it a great option for consumers that have a good credit history. However, keep in mind that many cards charge a fee of between 3% and 5% of the transferred balance.
You should compare the pros and cons of refinancing a personal loan if you have one.
This comparison will help you determine whether refinancing will reduce your monthly payments, save you money, or both. Once you have decided that refinancing is right for you, make sure to check your credit score, review the interest rate, fees, and consider how it could affect your credit.
Essentially, refinancing involves getting a new loan. All you are doing is paying off the outstanding balance on your old loan with the proceeds of your new loan. You will then have a new monthly repayment, terms and conditions.
Once you refinance a personal loan, the original loan is rolled into your new finance product. So, if you had a personal loan of $5k and then took out another loan of $10 to pay off the original loan and get some extra cash for a purchase, the old loan account is closed.
This means that in theory, you can refinance any number of times. However, each time you refinance a loan, you will be paying fees and potentially extending the term of the loan. This means that you will pay more and more interest in the long term.
Additionally, each time you apply for a new loan, the lender will do a hard pull credit search, which could impact your overall credit score. So, it is best to keep refinancing to a minimum.
If you need to refinance a personal loan with bad credit, you may be forced to accept a loan with a higher interest rate and unfavorable repayment terms.
You can add a co-signer or co-borrower to the loan to expedite funding and decrease your interest rate. Adding collateral can also help you to refinance. Typically, collateral is your home, a car, or a valuable item.
With a credit score of 500, you may be able to refinance a personal loan, but it will be difficult. You may also receive only loan offers with high interest rates and unfavorable repayment terms.
If you are unable to obtain the loan you require, you may want to consider spending a few months attempting to rebuild credit score by lowering your credit card utilization and debt-to-income ratio.