What does refinancing a personal loan mean in the first place? When you obtain a new loan and use the funds to pay off your existing personal loan, that whole process is what you can call refinancing a personal loan. This is a good practice if you are qualified for a lower interest rate on the new loan, as you can save some money with this strategy. There are, of course, many other situations, that refinancing a personal loan can be considered a good alternative option for you.
How to refinance a personal loan:
- First of all, you have to pre-qualify for a new personal loan. On its turn, you have to research various lenders and find out the best rates and terms for a new loan. Of course, do not forget to compare it with your old loan.
- Your next step will be to consider refinancing costs. Research and add all the new interest fees, prepayment penalties and other costs to understand the long term benefit of the new loan compared to the old one.
- Majority of the lenders, transfer funds to your bank account instead of paying directly for your first loan. So, you can as well use this new loan to pay off your current loan. But it is totally up to your own choice and situation.
- Make sure to confirm the old loan is closed and that there is no balance on your old loan. This will get you away from any additional, unexpected fees.
When is refinancing a good idea?
- If you are a borrower with good (690 to 719) or excellent credit (720 and higher) you have a chance of receiving a lower rate on a personal loan. So, in this way, if you kept up with on-time payments for your previous loan, refinancing can be a great chance to save some money.
- If you are having a difficult time with your current monthly payments, refinancing for a personal loan can help. It can extend the repayment term, which would be an additional help to you to boost your cash flow. At the same time, this also means that in the longer-term, the total amount you are paying will be more and you would have to stay in debt for a longer time period.
- At the same time. If you have a loan with a longer payment term, you can use refinancing of your personal loan to shorten the payment term. Reducing your total interest rate and as a result, paying off your debt sooner.
- Similarly, refinancing a personal loan is a good idea when you want to switch from a variable rate loan to a fixed-rate loan. Fixed-rate loans have their own benefits worth considering, so be sure to take those into consideration as well.
Pros and cons of refinancing:
Shorter repayment period: Refinancing a personal loan can give you an opportunity to reduce the repayment term, as discussed above, which on its turn will help to reduce the overall interest rate of your loan and get out of the loan faster. All of this, of course, if are comfortable with a higher monthly payment.
Lower APR: Refinancing a loan can also be beneficial to you in terms of getting a lower APR on the loan. This is possible in cases when your credit, debt-to-income ratio or income improved since the time you took the original loan.
A longer-term means more interest: Unless the situation discussed above connected to APRs if you are refinancing to a new, longer loan, this automatically means longer repayments, which increases your total interest rate costs. Thus, you end up in a situation when you have to carry the loan for a longer period.
Prepayment penalty: Among most of the online lenders, prepayment penalties are typically uncommon. However, there are some lenders that may charge you in case of early repayment of the loan.