Short answer: refinancing means taking a new loan to pay off the one you have. It saves money only if what you will pay on the new loan, including any fee, is less than what you still owe in payments on the old one. A lower APR helps; a new origination fee and a longer term work against you. Under federal rules a refinancing is a new transaction, so you get new loan disclosures to compare (12 CFR 1026.20(a)).
Worked example
Assumptions: you borrowed $5,000 at 24% APR for 36 months, a payment of $196.16. After 12 payments you owe $3,710.29, and 24 payments of $196.16 are left: $4,707.84 in total. Each refinance below has a 5% origination fee taken out of the new loan, so the new loan is larger than the balance to leave you enough to pay it off. Rates and the fee are examples, not offers.
| Option | Loan | Monthly payment | Total you will still pay | Compared with keeping the old loan |
|---|---|---|---|---|
| Keep the old loan | 24%, 24 months left | $196.16 | $4,707.84 | |
| Refinance at 14% for 24 months | New loan $3,905.57, fee $195.28 | $187.52 | $4,500.48 | saves $207.36 |
| Refinance at 14% for 48 months | New loan $3,905.57, fee $195.28 | $106.73 | $5,123.04 | costs $415.20 |
| Refinance at 20% for 24 months | New loan $3,905.57, fee $195.28 | $198.78 | $4,770.72 | costs $62.88 |
Payments use P x r / (1 - (1 + r)-n) with r = APR / 12, rounded to the cent. What the table shows:
- A much lower rate over the same remaining time saves money even after the fee.
- The same lower rate stretched over a longer term lowers the monthly payment but costs more in total, because you pay interest for longer.
- A small rate cut can be wiped out by the fee.
How to check your own refinance
- Ask your current lender for the payoff amount and for any charge for paying early. See prepayment penalties.
- Add up what is left on the old loan: the payment times the number of payments left.
- From the new offer, take the total of payments on its disclosure. Fees taken out of the loan are part of its finance charge and its APR (12 CFR 1026.4). Our origination fee calculator shows how a fee changes the APR.
- Compare the two totals. If the new total is higher, the refinance costs you money, even if the payment is lower.
- Make sure the new loan covers the full payoff after the fee, so the old loan is closed and no balance is left behind.
When a refinance can make sense
| It may help if | Think twice if |
|---|---|
| Your credit has improved and you qualify for a clearly lower APR | The new loan has a fee and the rate cut is small |
| You keep the term the same or shorter | The main gain is a lower payment from a longer term |
| There is no charge for paying the old loan early | You would pay a prepayment charge on the old loan |
| A lower payment is needed to avoid missing payments, and you accept the higher total | You plan to borrow more on top, which raises the balance again |
If the goal is to combine several debts, see debt consolidation loans. If a payment is already late, see what happens if you miss a payment.
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Disclosure: Modern Lending Solutions is not a lender, loan broker or agent for any lender or loan broker, and does not make credit decisions. Any compensation we receive is paid by participating lenders, only for advertising services. This guide is general information, not financial or legal advice.