How to pay off your car loan early

When your financial circumstances allow you to pay off your car loan early, you might be able to save some serious money on interest. But that’s not always the case. There are a few of factors to consider before you dive into an early repayment scheme.

Can I pay off my car loan early?

Generally yes, you’re allowed to pay off your car loan early. In fact paying off your loan early can cut down on the total cost of your car, because there’s less time for interest to compound on your loan. However, loans with pre-computed interest ensure that lenders get their full interest payment, regardless of how soon you choose to pay off your loan. In these cases, early repayment can only get you out of debt faster, but you’ll pay the same total amount either way.

Should I pay off my car loan early?

It might be a good idea to pay off your car loan early so you can save on interest or get out of debt quicker. There are three main situations where you can benefit the most from repaying early:

• There’s no prepayment penalty. Some lenders charge a prepayment penalty to make sure they don’t lose the interest you would have paid. You often can’t save if there’s a prepayment penalty.
• Interest isn’t pre-computed. Some lenders front-load the interest charge, meaning you’ll pay the same amount no matter how quickly you pay off your loan.
• You don’t have higher-interest debts. If interest rates are adding up more rapidly on another comparably sized debt, like a credit card, focus on repaying that first.

How much can I save by paying off my car loan early?

How much you can save depends on several factors, including how much time you have left on your term, your loan balance and your interest rate. Use our car loans calculator to learn the difference between repaying your loan according to your current term and paying it off early — if you have no prepayment penalties.

• How to use our car loan monthly payment calculator

  1. Enter the amount you want to borrow to buy a new car under Loan amount. This might not be the same as the cost of your car, since many lenders require a down payment.
  2. Write the amount of time you have to pay off your car loan under Loan terms (in years). If your loan term is in months, divide it by 12 first.
  3. Enter the interest rate you expect to pay on a car loan under Interest rate. If your car loan comes with fees, enter the annual percentage rate (APR) instead.
  4. Click Calculate.

  In addition to your monthly payment, this calculator shows how much you’d pay on your loan’s principle amount and how much you’d pay overall in interest. The principle amount is the amount that you borrowed and should be equal to your loan amount. Total interest is the amount you would pay on top of the principle — the cost of having your loan.

How does interest work when you pay off a car loan early?

Many car loans use your car as collateral and come with a fixed interest rate. In this case, lenders might place restrictions or fees on early repayments or won’t allow you to repay the loan early at all, because they would otherwise lose money on interest payments.

There are two different approaches to making extra payments or paying your loan off early:

• Repaying a variable-rate loan. Lenders generally place fewer restrictions on car loans with variable interest rates. Since lenders generally don’t lose as much money from early repayment with variable rate loans (as opposed to fixed rate loans), you likely won’t have to worry about early termination fees.
• Repaying a fixed-rate loan. Repaying your entire loan involves paying whatever the loan balance is due to the lender during a fixed-rate period. Here you’ll likely pay termination and administration fees that the lender uses to cover its lost interest.

7 ways to pay off your car loan early

Using these 7 strategies can help you pay off your car loan early and save on interest.

1. Refinance your loan

If you find yourself in a better financial position than when you bought your car, and you have a strong credit score, you could refinance your car loan to get a shorter term with a better rate, which will help you to pay off your debt faster.
Learn about common car loan scams and see legit lenders in Canada

2. Make additional payments

If allowed, try to make additional payments whenever possible. Making payments every other week, as opposed to twice a month, adds two extra payments per year (you’d make 26 payments instead of 24), which will help you save on interest.

3. Make lump sum payments

Try to make a few large payments per year when you get extra cash from a bonus, tax refund or a pay raise. Or let’s say that you come in under budget for some other expense, consider putting that extra amount on your car loan too.

4. Get a side gig

Working a few extra hours on the side can help you save up the cash you need to pay off your car early. Even small savings can really add up.

5. Renegotiate your car insurance

There could be additional savings if you start comparing other car insurance options, especially if you have a record of good driving. Then just apply the money you save to your car loan.

6. Sell your junk

Make a list of personal items that you haven’t used in a long time and decide if you really need them anymore. You may find that they’re better used as cash in your pocket than as junk items taking up space in your home.

7. Don’t skip payments

Even if, according to the terms of your loan, you don’t owe any interest right now and don’t have to make a payment, never skip one! Missing one of your scheduled payments will delay the repayment of your loan and may cost you more money in the long run.

Finder survey: Are men or women more likely to rate repayment flexibility as an important factor when applying for a car loan?

3 factors to consider before paying off your car loan early

Your car loan payments will affect how you deal with your loan, so examine them carefully. Before you send a new loan application, make sure you’ve considered the following factors.

1. How interest is calculated

If you’re paying a variable interest rate, you should find out when the lender recalculates your interest according to the prime lending rate. Also know that many lenders pre-compute interest on your car loan. This means that the amount of interest you’ll pay by the end of your loan is worked into your payments. Even if you make extra payments, the bulk of it will likely be applied to your interest — not the principal — so you won’t save by paying your car loan off early.

2. The flexibility of the payment options

Check if you’re able to make additional payments without penalty or if there’s a cap on how many additional payments you can make. And like with pre-computed interest, you should know how those additional payments are applied.

3. How you’ll make payments

Most people prefer to set up their payments to be automatically withdrawn from their bank accounts, and some lenders may actually require this. You may be given other options to pay off your loan, such as through an online account with your lender or paying by cheque. However, these comes with extra fees, which could make it more difficult to reduce your balance owing.

Bottom line

Making additional payments on your loan can be a helpful option that can help you save down the road, but it’s not the only feature that lenders have to offer — and it’s not always guaranteed to save you money. Remember to compare car loans, taking into consideration fees, features and rates to find the right one for you.

Frequently asked questions

• If I pay extra on my car loan does it go to the principal?

  It depends on your lender. Sometimes only part of an extra car loan repayment goes toward the principal and the rest may be applied to interest. It’s a good idea to specify with your lender that you’d like the money to go towards your balance.

• Will paying off my car loan early affect my credit score?

  Closing your car loan can affect your credit utilization ratio, one of the many ways credit bureaus determine your credit score.

• Will I ultimately save money by paying off my loan in full?

  Even though there may be a prepayment penalty, paying off the loan early will typically be cheaper then the interest acquired in the long run.

• When can I refinance my car loan?

  Unless stated in your contract, you should be able to refinance your loan whenever you like.

Picture: Shutterstock

Written by

Matt Corke

Head of publishing and editorial

Matt Corke is Finder’s head of publishing ventures. Prior to this he was head of publishing for Australia, New Zealand and emerging markets. Matt built his first website in 1999 and has been building computers since he was in his early teens. In that time, he has survived the dot-com crash and countless Google algorithm updates. See full bio