Does Paying Off a Car Loan Help or Hurt My Credit?

How Paying Off Your Car Loan Early Can Impact Your Credit

There's usually a slight dip in your credit score after you pay off a loan. The dip is temporary, though, and your score should rebound in a few months if there are no negative items in your credit report.

Paying off a car loan early sounds like a good thing, so why would it negatively affect your credit? There are a couple of reasons:

• It may hurt your credit mix. Having a mix of credit types—including installment accounts, such as car loans, and revolving accounts, such as credit cards—typically benefits your credit score. Your score may drop if the auto loan was the only open installment loan you had.
• It reduces your number of open accounts. When you have a thin credit file (that is, only a few credit accounts), every open account can benefit your credit score. Closed accounts that were always paid on time can positively impact your credit, but not as much as open ones. In this case, keeping your car loan open could be more helpful than paying it off early.

When You Should Pay Off Your Car Loan Early

It may make financial sense to pay off your car loan early in the following situations.

You Have a High-Interest Car Loan

Paying off your auto loan early can reduce the total amount of interest you pay, especially if you have a longer auto loan with a 60-, 72- or 84-month loan term. Before doing so, make sure there isn't a prepayment penalty for paying off the loan early. Also check to see if you have a precomputed interest loan. This means the total amount of interest you'll pay was calculated and fixed at the start of the loan, so paying off the loan early won't save you any interest.

Tip: If auto loan interest rates are lower or your credit score is higher than when you bought your car, refinancing into a lower-interest car loan could be an alternative to paying your loan off early.

You Need to Improve Your Debt-to-Income Ratio

Lenders may consider your debt-to-income ratio (DTI)—your total monthly debt payments compared to your total monthly earnings—when deciding whether to offer you credit. For example, when you apply for a mortgage, lenders generally require a DTI below 50%, and some have lower limits, such as 43% or even 36%. Paying off your auto loan early could improve your odds of qualifying for a mortgage.

You Have Plenty of Open Accounts

Does your credit report show lots of open credit accounts and a diverse credit mix, such as a mortgage, a student loan and several credit cards? Assuming you have a long credit history and a solid credit mix, paying off your car loan early should only cause a slight, short-term dip in your credit score.

Learn more: Which Debts Should I Pay Off First to Improve My Credit?

When You Shouldn't Pay Off Your Car Loan Early

There are times when it's better not to pay off your car loan early.

You Have a Low-Interest Auto Loan

The interest rate on car loans is usually lower than on many other types of debt. For example, credit card interest rates average 22.80%, according to Federal Reserve data from the fourth quarter (Q4) of 2024. In contrast, the average new car loan interest rate is 6.35%, according to Experian's State of the Automotive Financing Market report from Q4 of 2024. Were you fortunate enough to get 0% financing when you bought your car? Then there's really no benefit to paying the loan off early.

You Have High-Interest Debt

As mentioned above, the average interest rate on credit cards is generally much higher than for auto loans. What's more, credit card interest is usually compounded daily, which can cause your balance to increase rapidly. As your balance balloons, it gets harder to pay off. Putting extra cash toward paying down credit cards generally makes more sense than using the money to pay off your car loan early.

Learn more: How to Pay Off High-Interest Credit Cards

Your Loan Term Is Almost Over

When you only have a few more loan payments to go, paying off your car loan early won't save you much interest. In this situation, it's generally better to keep the loan, make your final payments on time, and benefit from the positive impact on your credit score. (One exception: If you want to sell your car to a private party, paying off the loan makes that easier to do.)

You Have a Thin Credit File

Open accounts are generally more beneficial than closed ones if you're trying to plump up a thin credit file. Since paying off your auto loan reduces the number of open accounts on your credit report, you may want to build up your credit history before paying off your car loan.

Your Auto Loan Has a Prepayment Penalty

When you pay off your auto loan early, the lender doesn't receive all the interest you would have paid over the full loan term. To compensate, some lenders charge a fee if you pay off your loan before the term ends. If your auto loan agreement includes this prepayment penalty, you'll need to weigh the cost against any savings from early repayment.

You Don't Have an Emergency Fund

Receiving a windfall such as a tax refund or a big bonus at work may tempt you to pay off your auto loan early. But stashing that cash in an emergency fund could be a better idea. Unless you already have three to six months' worth of essential living expenses set aside, consider putting the extra cash towards your emergency fund instead of your car loan.

Learn more: Why You Need an Emergency Fund

How to Pay Off Your Car Loan Early

There are a few different ways to pay your car loan off early.

• Make one lump-sum payment. Ready to pay your loan in full? Contact your lender to get your loan payoff amount. (This may differ from the outstanding loan balance.) See if there are prepayment penalties or other fees you'll need to include and if there's anything special you need to do when making your final loan payment.
• Make occasional extra payments. You can speed up your auto loan payoff by putting cash gifts, bonuses, tax refunds and other occasional windfalls toward the balance. Most lenders allow you to make extra payments whenever you want using their online portal.
• Schedule regular extra payments. Revising your budget can uncover extra cash you can use to pay down your auto loan. Determine how much you can regularly pay; then set up automatic biweekly payments to speed up progress toward your payoff goal.

Before making extra payments on your auto loan, find out how these payments will be treated. Many lenders automatically apply extra payments first to any interest that has accrued since your previous payment, and only then to your loan principal. Ideally, however, you want 100% of your extra payments to go toward your loan principal; this reduces both the total interest and the total amount you owe.

If making a principal-only payment is an option, find out what you need to do to make it happen. For instance, you might have to check a box online when making your payment, make the request in writing or mail your payment to a specific address.

Learn more: What to Do Once You Pay Off Your Car

The Bottom Line

To make a smart decision about paying off your car loan early, consider your loan's interest rate and potential savings, how early repayment might affect your credit score, and whether there are better uses for the money. Depending on your situation, paying down credit cards or building an emergency fund might make more sense.

Wondering how paying a car loan off early could impact your credit history? You can check your credit report and credit score to see where you currently stand. Consider signing up for free credit monitoring from Experian to get alerts of any changes that may affect your credit score.