If your lender allows it and you can afford it, making extra principal payments on your car loan can help you save on interest and pay it off faster. However, consider whether thereâs a better use of your money, such as paying off high-interest debt.
The average auto loan term is close to six years, according to Experian data from the fourth quarter (Q4) of 2024âa long time to be making payments. You could pay off your car loan faster by putting extra money toward your loan principal.
Paying down the principal on your auto loan helps reduce the interest that accrues over the loan term. With the average new vehicle loan at $41,572, according to the Q4 2024 Experian State of Automotive Financing report, paying off your loan early could save quite a lot on interest. However, before making extra principal payments on your car loan, its important to know how it could affect your credit score and your personal finances.
Paying off your car loan faster can save you a lot of money in interest charges But what really happens when you start paying an extra $50 or so toward your auto loan principal each month?
I recently started doing this, so I decided to break down the details. Here’s a look at how paying extra on my car loan is impacting my loan payoff, interest costs, monthly payments and more.
How Paying Extra Lowers Your Interest Costs
The main benefit of paying extra on your car loan is saving money on interest. Auto loans charge interest on the unpaid principal balance. So the higher your balance, the more interest you’ll owe each month.
By paying extra toward the principal you lower the balance faster. This reduces the amount of interest that accrues between payments.
For example, say you borrow $15,000 for a used car loan at 6% interest over 5 years. Your monthly payment is around $290. In the first month, you’ll pay about $75 in interest.
If you pay an extra $50 toward the principal that first month, you’ll lower the balance by $50. This means the next month you’ll owe about $74 in interest instead of $75.
While $1 doesn’t seem like much, it adds up over the life of the loan. On a 5-year auto loan, paying $50 extra each month can save over $600 in interest!
How It Impacts Your Payoff Date
In addition to saving on interest, paying extra funds your car loan principal. This lets you pay off the loan faster.
Using the $15,000 loan example above, paying an extra $50 a month would let you pay off the loan almost 10 months early. Instead of taking 5 years to pay off, you’d pay it off in about 4 years and 4 months if you added $50 each month.
The more extra you can afford to pay, the faster you can slash your loan term. An extra $100 a month would pay off the 5-year loan in about 3 years and 9 months.
Monthly Payment Amount Doesn’t Change
One thing that doesn’t change when you pay extra is your minimum monthly payment amount. Your lender determines the payment amount based on your loan amount, interest rate and loan term.
So even if you pay extra toward your car loan principal, your required monthly payment stays the same. The extra funds simply help you pay off the loan faster.
You can always choose to increase your monthly payment if you want. But paying extra on top of your regular payment lets you pay off the loan faster without formally raising your payment.
How to Ensure Extra Funds Go to Principal
When you make extra payments, you want the funds to lower your principal directly. But some lenders will apply extra payments to interest and fees first unless you specify otherwise.
Before making extra payments, contact your lender to find out how to designate them as principal-only payments. Often you can note this on your auto loan website or write it on your payment check.
Getting written confirmation from your lender also helps ensure there are no issues with processing your principal payment correctly.
Weigh the Pros and Cons
Paying extra cash toward your car loan balance can save you hundreds of dollars in interest and pay off your auto loan years faster. But it also reduces how much cash you have available each month.
Before paying extra, make sure you have enough savings and that you’re addressing any higher interest rate debts. Paying off credit cards and other loans first usually makes more financial sense than making extra car payments.
And if your budget is tight, putting that $50 or $100 toward necessities might be smarter than paying extra on a low rate car loan. Make sure you’ve balanced short and long term needs before committing to extra principal payments.
A Look at the Impact of $50 Extra Per Month
To show the specific effects of paying $50 extra each month, let’s use a $15,000 auto loan example:
- 5 year loan
- 6% interest
- $290 monthly payment
Over the 5 year term, you’d pay about $2,600 in interest without any extra payments.
By adding $50 each month, here is what happens:
- Interest paid drops to around $2,000 – saves $600
- Loan payoff drops from 60 months to 49 months
- Total payments drop from $17,400 to $16,800
So an extra $50 a month saves almost $600 in interest and lets you pay off the loan 11 months faster. That’s a pretty solid return for a small amount of extra principal each month.
Other Ways to Pay Off Your Loan Faster
In addition to paying extra each month, here are a few other tips for paying off your auto loan ahead of schedule:
- Make biweekly half-payments instead of monthly payments
- Refinance your loan at a lower interest rate
- Use your tax refund or year-end bonus toward the principal
- Sell the car and use proceeds to pay off the loan
- Trade in your car for a less expensive used car
The faster you can increase payments toward your principal, the more interest you’ll save over the life of your loan.
Know What to Expect When You Pay Extra
Paying extra principal on your auto loan each month is a smart and relatively simple way to pay off your car faster and reduce interest costs. Just be sure to check with your lender on how to properly allocate extra payments to principal.
While paying extra won’t change your monthly payment amount, it can slash your loan term by months or even years. Carefully consider both short and long term budgets and financial goals before committing your extra funds to accelerate car loan payoff. But if you can afford it, paying extra principal is a savvy way to get out of debt faster.
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How Paying Extra on Your Car Loan Payments Works
When you make a car payment, most lenders apply the payment this way:
- First, the payment goes toward any outstanding fees, such as late fees.
- Next, the payment goes toward the interest accrued since your last payment.
- Finally, the rest of the payment goes toward your principal balance.
Extra payments are generally treated the same way, which means they may not reduce your principal as much as you want. You can find out how your lender applies extra payments by reading your loan document or contacting your lender or loan servicer.
Before making extra payments on your car loan, see if theres a way to apply the extra money directly to the loan principal. If there is, find out what you need to do to make that happen. For instance, you might need to check a box online, ask to apply the payment to principal in writing or send the payment to a different address.
Youll also want to make sure your loan doesnt have precomputed interest or a prepayment penalty, which could cancel out your interest savings from making additional payments.
If It Was Your Only Account With a Low Balance
The balances on your credit accounts relative to their original loan amounts or credit limits factor into your credit scores. If your auto loan has a low balance and all your other open accounts have high balances, closing your auto loan could lower your credit score.
Paying Off Car Loan Early | Principal vs Extra Payment Explained
FAQ
What happens if I pay an extra $50 a month on my car loan?
Making extra principal payments on your car loan can help you pay off the loan faster and reduce the total amount of interest you pay. However, it’s important to consider your budget, other debt and financial goals to decide if making extra loan payments is the best use of your money.
How to pay off a 6 year car loan in 3 years?
- Refinance Your Car Loan.
- Make Biweekly Payments.
- Make Extra Lump-Sum Payments.
- Avoid or Cancel Add-On Expenses.
- Adjust Your Budget.
What is the 50 30 20 rule for car payments?
The 50/30/20 rule is a budgeting guideline that suggests allocating 50% of your after-tax income to needs, 30% to wants, and 20% to savings and debt repayment.
What happens if I pay extra on my car payment every month?
If you can afford to make extra payments on your car loan, it’s a smart move. Doing so allows you to pay down your principal balance faster and save on interest. The only time it might not be such a good idea is if you have higher-interest debt (maybe credit cards, for example).