If you’re considering paying off your car loan early, you’re probably thinking about the benefits of saving on interest and owning your car outright as soon as possible.
It’s a solid strategy for gaining some more financial freedom, but before you take the plunge, it helps to understand exactly how early repayment impacts your loan and your finances.
Can You Pay Your Car Loan Off Early?
Yes, many lenders in Canada allow you to pay off your car loan ahead of schedule.
This means you have the option to make extra payments or settle the entire balance before the end of your loan term. Doing so can save you money on interest and help you own your car debt-free sooner rather than later.
Learn more: Can You Pay Off A Loan Early?
Can You Pay Off A Car Loan Early Without Penalty?
That depends on your lender and the specific terms of your loan agreement.
Many Canadian lenders, including the top 5 banks, offer car loans that allow early repayment without penalties. However, other lenders may charge a prepayment fee for breaking the contract early. This is to compensate for the interest they would otherwise earn over the full term of the loan.
If you’ve got an active auto loan, there’s a couple of steps you can take to determine if your loan has any prepayment penalties:
- Review Your Loan Agreement: Look for any clauses related to early repayment or prepayment fees.
- Contact Your Lender: If you’re unsure about the terms, reach out to your lender directly for clarification.
Do Bank Allow Prepayments On Car Loans?
| Bank | Prepayment |
| TD Bank | You can prepay all or part of the unpaid principal amount at any time without charge or penalty |
| Scotiabank | You can prepay or pay off your loan at any time without penalty |
| RBC | There is no penalty to pay off your loan early |
| BMO | You can repay your loan early without penalty |
| CIBC | You can prepay any amount of the loan without incurring fees |
How To Pay Off A Car Loan Early In Canada
Whether you’re looking to save on interest, improve your credit or simply be done with repayments, there’s more than one way to get ahead on your car loan. Here are some routes forward:
Make Higher Payments
Most car loans are open, meaning you can pay more than the minimum without penalty. Adding just $50 – $100 to each monthly payment directly reduces your principal and shortens your loan term, which means you will pay less in total interest.
Increase Payment Frequency
Alternatively, you could increase the rate at which you make payments. This will accelerate your repayment schedule and also reduce the total interest charged over the course of the loan.
Lump Sum Payments
Tax returns, work bonuses or even monthly budget surpluses can all be put toward your loan. Even a single large payment early in the loan term can significantly reduce interest costs, and shave a few months off your repayment timeline.
Rounding Up
If your monthly payment is $386, for example, then you could consider rounding that up to $400 or even $425. This change is simple to budget for and should add up to decent savings over the long term, without straining your finances.
If I Pay Extra On My Car Loan Does It Go To Principal?
Whether extra payments on your car loan go directly to the principal depends on your loan agreement and how your lender applies payments.
Generally speaking, for loans with simple interest, interest is calculated on the remaining principal balance. So, making extra payments can reduce the principal, thereby decreasing the total interest paid over the life of the loan.
However, some loans may have pre-computed interest, where the total interest is calculated upfront based on the original loan terms. In such cases, paying off the loan early might not reduce the total interest owed.
At the end of the day, the only way to know for sure if your extra payments will go toward paying off the principal is to speak to your lender directly.
Will Paying Your Car Loan Early Affect Your Credit
Paying off your car loan early can have both positive and minor negative effects on your credit.
Potential Positives
- Your account will be marked as paid, which may positively affect your credit.
- You’ll have built a strong positive payment history, which stays on your report for several years.
Potential Negatives
- By closing your account, the average age of your credit accounts will lower.
- By closing an account, you may also reduce your credit mix.
Benefits Of Paying Your Car Loan Early
If you’re in a position to pay off your car loan ahead of schedule, there are several practical advantages to doing so.
- Improved Credit Profile. Paying off your car loan early can positively impact your credit scores by demonstrating responsible borrowing habits.
- Interest Savings. The sooner you pay off your loan, the less interest you’ll have to pay, which is especially helpful if your rate is on the higher side.
- More Financial Flexibility. Clearing the balance ahead of schedule helps you eliminate the financial commitment faster and gives you one less monthly bill to worry about. Once your loan is paid off, you can redirect those car payments toward savings, investments, or to cover other debts that you might be carrying.
How Much Can You Save By Paying Your Car Loan Early?
The savings you can make from paying off your car loan early will depend on your interest rate, loan term, and of course, how much extra you put toward the loan.
In Canada, car loan rates average around 5% to 8% for borrowers with good credit, though rates may be higher for used vehicles or those with less established credit.
| Example Let’s say you took out a $30,000 loan at 6% interest over 60 months (five years). Your regular monthly payment would be about $580. If you rounded that up to $650/month, to put an extra $70 toward your loan, this would shave roughly 8 months off your term and save about $740 in interest overall. |
Keep in mind, however, that rounding up payments will help you pay the loan off faster, but you won’t necessarily save more money overall unless you’re avoiding higher-interest debt, or keeping your loan for significantly less time.
Real savings will come if you can instead make large lump-sum payments early in the loan, or if you can shorten the loan by a year or more, not just a few months.
Things To Consider Before Paying Your Car Loan Early
Here are some key points to keep in mind if you’re considering paying off your car loan early:
Prepayment Penalties
While most Canadian banks and lenders allow you to pay off your car loan early without penalty, it’s always important to check your loan agreement. Some lenders, especially dealership financing or subprime lenders, may charge fees for early repayment, or limit how much extra you can pay in a given period.
Opportunity Cost
If your car loan has a low interest rate or a special 0% financing offer, you might earn more in the long term by investing an extra payment elsewhere, such as in a high-interest savings account, RRSP or TFSA.
Cash Flow & Flexibility
Earlier repayment could mean tying up cash that might be used for emergencies, savings or other priorities. If you don’t have a strong emergency fund yet, for example, you may consider directing your extra cash in that direction instead of paying off your loan earlier.
Can I Transfer My Car Loan To Someone Else?
In Canada, transferring a car loan to someone else is possible, but it’s not always an easy process.
Most lenders won’t allow a direct transfer of an auto loan without reviewing and approving the new borrower first, and others simply don’t allow transfers at all.
That said, there are generally a few options available to most borrowers.
Lender Approval
Some lenders may agree to transfer the loan, but only if the new borrower undergoes a credit check and qualifies based on their income, debt levels and credit history.
And even if the new borrower is approved, the lender is within their rights to charge administrative fees or require a new contract to be drawn up and signed. In any case, be sure to call your lender and ask specifically about whether they permit loan assumption or transfer.
Selling the Vehicle
Another option is to simply sell the car. This is probably the most straightforward way to exit a car loan, but of course it isn’t always a viable option.
If the sale price is enough to cover the remaining balance on the loan, then the proceeds can be used to pay it off. If you’re considering this, be sure that the car’s value isn’t lower than the loan amount (i.e. negative equity), otherwise you’ll need to pay the difference out of pocket to clear the debt and legally transfer ownership.
Refinancing the Loan
If a direct transfer isn’t permissible, refinancing is a common alternative.
This means the person taking over the vehicle will apply for a brand-new loan in their own name, and use it to pay off your existing car loan. Once the original loan is paid off, the vehicle can be registered in their name.
This offers a clean break for you financially, though the new borrower may face higher interest rates depending on their credit profile.
Speak with a Loans Canada representative today and learn how you can refinance your car loan and save. Call us today at 1-877-995-6269 or click here.
Note: Program is currently not offered in Quebec.
Other Ways To Get Out Of A Car Loan
If transferring through the lender or refinancing doesn’t work for you, you may want to consider the following alternatives:
Debt Consolidation or Personal Loan
If you’re struggling with payments but want to keep the car, consolidating the car loan into a lower-interest personal loan might reduce your monthly costs.
This works best if your credit has improved or if interest rates have dropped since you originally took out the car loan. Just keep in mind that extending the loan term could reduce your monthly payments, but actually increase the total interest cost.
Trade-In With Negative Equity
If your car is worth less than what you owe, some dealerships will still allow you to trade it in and roll the negative equity into a new loan.
This can be risky, as you’re essentially adding old debt to a new loan, but in some cases it can be a viable way to exit a car you no longer want or need.
Voluntary Repossession
This involves returning the vehicle to the lender, if you can no longer afford the payments.
While this approach may seem like a clean exit, it can still carry major credit implications. In such an event, the lender will probably sell the car at auction, and if the sale doesn’t cover the remaining balance, you’ll still be responsible for paying it off.
This option should only be considered if you’ve exhausted all others.
Conclusion
Paying off your car loan early can be a smart financial move, but it’s important to weigh the pros and cons first. Above all, make sure you’re clear on the terms you’ve agreed with your lender, and whether or not it fits your overall financial goals.
