Car Dealers Make More Money Financing Your Car than Selling it

OK, you’ve just bought that new or used car and the pressure is off…right? WRONG! The next step for the car dealer is to get you into the “box”. You won’t hear this word mentioned. It’s inside car dealer slang for the F&I office or the business office. This is the place that you sign all those papers making the sale legal and final. But in addition to that, it’s also a very important profit center for car dealers. In most car dealerships it’s the most profitable department. It’s not uncommon for car dealers to make over $1,500 in “the box” on each car they sell. AutoNation, the world’s largest auto retailer makes over $2,000.

The auto manufacturers put a lot of pressure on their dealers to sell more new cars. Dealers have minimum quotas that they must meet or exceed. If they don’t, they can be penalized by losing large cash bonus rewards. To ensure that they don’t lose these bonuses, dealers are being forced to price new cars so low that many dealers are losing money in their new car departments. This puts even more pressure on car dealers to make up for the lost new car profits by increasing their finance department’s profits.

Here’s how that profit is generated. First, and usually foremost, is making money on the interest they charge you. Essentially, they make money on “the spread” just like banks make money when they loan it. For example, a car dealer will borrow money from Bank of America for 3% and loan it to you for 5% or whatever interest rate they can convince you to accept. The second way they earn that big profit in “the box” is by selling you “products” which are added to the price of the car you just bought. There are many products and some of the most common are extended service warranties, maintenance plans, road hazard insurance, GAP insurance, window etch, and LoJack. 

The way you should protect yourself on the interest rate is to have already shopped your own bank or credit union and two other banks for the best interest rate you can qualify for. Never go into “the box” without knowing what the best rate other banks or credit unions will allow you. The best way to protect yourself against the products they will try to sell you is to completely understand each product. Do you want or need an extended warranty on your new car? If this product costs $1,900 for example, how long are you going to keep the car and how long are you likely to be driving it when it’s out of the manufacturer’s warranty? Ask the same questions of each product they try to sell you. If you’re unclear on the merits of a product, don’t commit. You can always go home and think about and seek advice from friends and advisors. If the finance manager tells you that you must decide immediately, just leave. He’s not being honest.

Another important tactic is to never go into “the box” alone. If it’s just you and the F&I manager [often called business manager], and there is a dispute over what was said, it’s just your word against his. Also, having a friend or advisor present will usually be a deterrent to any attempted deception. 

These are some of the kinds of deception you should be on the lookout for. Tying the sale of a product, like an extended service contract, to the interest rate or the bank’s willingness to approve your financing is illegal. But this practice happens all too often behind the closed doors of the “the box.” The F&I manger may tell you that the bank “requires” you to buy the extended warranty, GAP insurance another product to protect the bank’s collateral. This is simply a lie. Another common form of deception is to not disclose the products or interest rate, and have you sign the contract without reading it. There are many documents to be signed after you buy a car. Buyers are often in a state of euphoria now that they have bought their dream car and are in too much of a hurry to sign everything and drive their new car home. The car dealer is required by law to give you a signed copy of the installment sales contract. Be sure you carefully read it, and be sure have a copy. If you don’t get a copy, you may find that you signed a different contract than the one you read. 

Extended service warranties, GAP insurance, and other insurance products are regulated in Florida unlike many other states. This affords you some degree of protection like being able to cancel an insurance product if you did not use it. You can do this in 60 days for a 100% cancellation. You don’t get the cash back and your monthly payment won’t go down, but the amount is taken off the principal amount you are financing through the bank. You can cancel insurance products after 60 days, but the cancellation is not pro rata and you pay a large penalty. 

If you remember nothing else from this article, please remember this one thing. Don’t hurry the process of financing your car and signing the papers. Don’t let the car dealer encourage you to sign anything you don’t understand. Time is on your side because it will allow you to think and to consult with others who can help you make your final decision. I get a lot of calls from victims of “the box” and the one thing they all have in common is that they let themselves be rushed into signing the documents so that they could drive their dream car home that same day.

Top Ten Car Ad Scams

I could write a “Top 50 Auto Ad Scams” because the ingenuity for deception in “getting car buyers in the door” is virtually limitless. However, I chose to concentrate on the ten most popular with South Florida dealers. Just beware that there are many more schemes than these I list.

(1) Discount from Dealer List. Anytime you read or see a car advertised with a large discount, determine whether that discount is from the MSRP [manufacturer’s suggested retail price] or the dealer’s retail price. An all too common practice is for a dealer to mark up his cars thousands of dollars over the MSRP and call it “dealer list” so that he can show huge discounts that aren’t real.

(2) Prices exclude “impossible” rebates. Manufacturers often offer cash rebates to customers who qualify for special reasons. Some of these are being on active duty in the U.S. military. This rebate can be as much as $1,500. If you graduated from an accredited 4 year university within the past 6 months you can qualify for $500 to $1000 from some manufacturers. There is a customer “loyalty” rebate which affords you $1,000 or more if you own the same make car that you are buying. There’s a similar rebate for lease customers. There’s even a “Farm Bureau” rebate which qualifies you for $500 if you’re a farmer. Dealers are combining all of these rebates and deducting them from advertised prices of their cars. Of course, what are the odds that any customer would simultaneously qualify for all these rebates? The average reader of these ads qualifies for none of the rebates.

(3) Lease payments based on large down payments. Virtually every lease payment advertisement requires a large down payment which is concealed in the fine print. Most people lease because they want to lay out as little cash as possible. If they had $4,000 cash to spend, they would probably opt for a purchase. Those that fall for this trick often end up leasing the car at the full retail. Leasing companies will allow dealers to lease cars for “only” up to 110% of capitalized cost. When you make a down payment, this reduces the net capitalized cost which allows the dealer to sell your contract to the leasing company.

(4) Lowest Price Guarantee. This guarantee is worthless. If you read the fine print, you will note that it says that “the dealer reserves the right to buy the car from the other car dealer [his competitor] at the same price his competitor quoted you”. No car dealer is going to accommodate his competition so that they can steal away his customer. Of course, the other fact that makes this guarantee worthless is that it requires that you prove the lower price by presenting a buyers’ order from the other dealer signed by a manager. Very few car dealers will give a signed copy of the vehicle buyers’ order to a customer unless they drive the car home or make a substantial, nonrefundable deposit.

(5) Only one car available at ad price. When you are reading or listening to an advertisement, you will often see a strange number next to the advertised car. If you are watching the ad on TV or listening on radio, the number will be unreadable or undecipherable as is the fine print. An example is STK #T91832. This is the stock number of the car and means it is the only car of that model and accessories you can buy at the advertised price. They don’t say “only one car available at this price” because you would realize that the chances of that car being there [or sold to you if it is there] are very slim. Don’t be misled if the ad also says, “many more identical models available at this price”. Florida law requires that dealers include the dealer fee in their advertised price. But if that specific stock number car is unavailable, they can add their hidden dealer fees to the price of an identical car. This scam is why I continue to lobby Tallahassee to require that all profits to the dealers be included in all prices whether advertised, verbal, or on the Internet.

(6) Advertised price is “plus dealer installed accessories”. All this means is that the price you see is notthe price you get. Dealers love to add their accessories to their cars because they can set any price they want and drastically increase their profit margins. A dealer charging you $299 for pin stripes and floor mats would have a real cost of about $100, allowing him a 300% margin.

(7) Lease payment based on unrealistically low mileage allowance. All leasing companies limit the number of miles you can put on their car without paying a penalty. This is because the higher the mileage, the lower the resale value and the leasing company must sell their car at the end of the lease. The average American drives her car 15,000 miles per year. It’s very common to see mileage limits of 10,000 and even 7,500 miles per year with penalties of 25 cents per mile. For an average driver in a four-year lease, that would be a penalty of $7500! The dealers don’t get this money, the leasing company does, but the dealers do this so that they can advertise an unrealistically low lease payment.

(8) Lifetime Warranty. A lot of dealers are advertising these “lifetime warranties” on every car they sell. This is a very limited warranty which applies only to the car’s powertrain. The term powertrain has different definitions as to which parts of the car it consists of. It typically means only those parts of the engine, transmission, drive shaft, and rear axle that are lubricated. These parts virtually never fail if you change your oil as prescribed by the manufacturer or by the issuer of the warranty policy. If you fail to change your oil as prescribed, the warranty is null and void. It’s a win-win for the car dealer. You must come in to have your car serviced regularly so that he can make more profit and, if you do comply with this, there will never be a claim. Dealers do pay outside warranty companies for these warranties, but the cost to the dealer is minuscule, around $25. The low price the dealer pays the warranty issuer is further proof that the warranty is worthless.

(9) Purchase payments include “balloon payment”. How would you like to buy a new BMW 328i for just $339 per month only to discover that your last payment was $12,983! Oh, and you also had to make an upfront down payment of $2,500. ALWAYS READ THE FINE PRINT!

(10) Internet Quotes Exclude “Dealer Fees”. The average “dealer fee” in South Florida is over $1,000. At least half of car buyers are using the Internet to buy cars today. Almost 90% used the Internet for information about buying their car before going to the dealership. Virtually every car dealer in Florida charges multiple, hidden dealer fee and they all exclude those from the price you are quoted on the Internet. I spoke to a woman just the other day who drove all the way from Lakeland to West Palm Beach to pick up the new Infinity that she had purchased on the Internet. When she got to the dealer, he added an additional about $1,000 in hidden dealer fees.

Deaths from Dangerous Recalls Are the fault of our Legislators

Clearly auto manufacturers are partly to blame for the millions of vehicles on our highways with unfixed, dangerous recalls, like Takata airbags that explode in the driver’s face like a hand grenade. But the auto makers didn’t build cars with dangerous problems on purpose; it was a mistake.

Our lawmakers could get virtually all these cars repaired very quickly just by passing a law to make it ILLEGAL TO SELL A VEHICLE WITH A DANGEROUS RECALL. Their lack of action on this issue is not a mistake; it’s premeditated to enhance their chances of reelection.

You may be thinking that the auto makers are doing all they can because they issue recall notices to drivers and will fix their cars free when the owner brings it to one of their dealers. One wonders how many recalls would be issued if they weren’t required to do so by the National Highway Traffic Safety Association, NHTSA.

The reason that recalls don’t solve the problem is that only 1 out of 4 recalled cars is ever fixed. That’s because most drivers of recalled vehicles are unaware that their vehicles have been recalled and many procrastinate or just don’t care enough to have it fixed. Also, there are hundreds of thousands of recalled cars for which there’s no fix available.

Older recalled cars are often the most dangerous, especially those recalled for defective Takata airbags that become more dangerous over time. A driver of a 2010 used Honda could easily be the second, third or even fourth owner. The chances of that owner receiving a recall notice in the mail are slim. When the car was purchased new, there was no recall. When the car was subsequently sold by used car dealers, there was almost certainly no disclosure made to the buyer. Most states don’t require the disclosure. When and if a disclosure is made, it’s usually buried in the fine print. Yes, this information is available to buyers online via CarFax, NHTSA, and the manufacturers, but the reality is that very, very few used car buyers avail themselves of this.

I’ve mystery shopped dozens and dozens of car dealerships in South Florida over the last three years and virtually everyone is selling cars with dangerous recalls and no disclosure. Many car salesmen lie about the recall, saying there is no recall, or the recall was fixed. Many tell the buyer that all she must do is take it the new car dealer and have it fixed when he knows there is no fix available. You can read these mystery shopping reports at http://www.mysteryshoppingreports.com/.

The auto manufacturers and car dealers are fully aware of all the above, but if they voluntarily refused to sell a recalled car to a customer it would have a significant negative economic impact. The auto manufacturers and many of the car dealerships (AutoNation, CarMax, Penske, Sonic) are publicly owned companies. A public company has a fiduciary responsibility to their stockholders to make a profit by every legal means. Mike Jackson, then CEO of AutoNation, made the right and moral decision not to retail used cars with defective recalls to its customers. After a year of declining used car profits and outcries from stockholders, he reluctantly began retailing these dangerous cars.

The only way to get these dangerous vehicles off the road, fixed and safely back on the road is for our federal and state legislators to make it illegal to sell a vehicle with a defective recall. This is almost laughably simple and obvious. It’s also sadly simple and obvious that the only reason they don’t is because they will lose the financial support for reelection from the auto makers and auto dealers.

Should I Pay Cash for My Next Car or Finance It?

Most people don’t have any choice except to finance their cars. However, if you are reading this column, the chances are you’re in that fortunate higher demographic income group and can afford to pay cash for your next car. People who read newspaper columns and blogs tend to be more intelligent and affluent. But, just because you can, is it the right move?

Many people think they can get a better deal on a car if they pay cash. This was true 50 years ago before dealers discovered the new profit center referred to as the Finance and Insurance Department aka “Business Office”. Today this is not true. In fact, paying cash may even make the actual vehicle cost you more! The reason for this is that car dealers make money when they handle the financing with the bank or with the manufacturer’s lenders like Honda Finance, Chrysler Credit or normal banks like Wells Fargo or Capitol One. A dealer typically averages about $4,000 on every car he handles the financing on. Therefore, if the dealer’s minimum acceptable profit on the car’s markup was $1,000, he may sell it to someone who he could make $4,000 finance profit on for less than someone who he knew was a cash buyer. Dealers will sometimes sell a car for zero profit or even lose money on the car because they can make a good profit on the financing.

If you plan on paying cash for your next car, my recommendation is DO NOT TELL THE CAR DEALER THIS. Tell the car dealer that that you are considering financing with him. This will help you get a lower price because the dealer still has hope that he can make money when he finances our car. The average profit a car dealer makes financing cars is much larger than he makes marking up the selling price. AutoNation, the world’s largest retailer of new vehicles, made the decision about one year ago to increase their new vehicle prices because they were losing money in their new car departments. They were always very profitable in their finance and insurance departments…averaging over $2,000 per vehicle on every car sold. In fact, they’ve focused more on increasing profits in the finance department even more with “branded products” …AutoNation GAP insurance, Auto Nation Maintenance Plan, AutoNation Extended Warranty, etc.

My second recommendation is check interest rates and terms with your own bank or credit union before you talk to the car dealer’s finance people. The finance manager (aka business manager) is on commission and paid a generous percentage of the profit he makes by marking up the bank’s interest rates and selling you extra “products” like extended warranties, GAP insurance, and car maintenance.

One argument in favor of financing a car is being able to keep your money invested, and earning a greater return than your interest cost of financing. There has never been a never time in our history that this is true. The bad news is that interest rates are not only at historical lows for borrowing but also for CD’s and interest income. With very good credit, you can finance a new car today for between 3% and 4%, but you can’t find a short federally insured CD for that amount. However, you can find secure equity and bond investments that will earn considerably more than your cost of interest on financing a car.

There is one very important intangible reason why some people should pay cash for their car. That intangible is called “peace of mind”. My older brother, Doug, grew up during the Great Depression. When he built his new house, he paid cash for it. I couldn’t believe this and was severely critical of him. It was entirely illogical for him to pay cash when he could get a very low interest rate and home mortgage interest is tax deductible. His investments earned him far more than the interest rate on his mortgage would cost. After a while I finally realized why Doug was right and I was wrong. He paid cash for his home because it made him feel better. Growing up in the thirties, like many of my customers did, made an indelible impression on his emotions. Owning his home with no debt made him feel happy and secure and what could be more important than that?

Should You Exercise Your Option to Buy Your Leased Car?

One of the advantages of leasing is your option to buy the car at the end of your lease at the “residual” price. The residual is what the leasing company “guessed” your car would be worth at the end of your lease. They guessed because nobody has a crystal ball that tells them exactly what a used car will be worth 3 or 4 years in the future. If they guessed low, you have an opportunity. If they guessed high, you have no obligation; it’s the leasing company’s problem and they must sell the car and take a loss.

The best thing about making this decision is that you’re holding the best hand in the card game between you, the leasing company, and the dealer. That’s because you know your car better than they do. You’ve probably been driving it for close to three years, you know how well you’ve maintained it, how worn the tires are, whether it’s been wrecked and repaired, and how many dings, dents, or upholstery stains there are. You know if it was garaged, how carefully you drove it and the exact mileage. You also know, better than anybody, how well it runs. All these things determine the value of your car.

Unless you buy a new car, you can’t have as much confidence in any other used car that you buy as your own used leased car. The only assurance that you have when you buy somebody else’s used car is their word, or the dealer’s word, about how it was driven and maintained. A CarFax report offers good information, but it’s not 100% reliable. That means if you did take very good care of your leased car, drove it carefully, kept it in a garage, waxed and washed it faithfully, maintained it carefully and didn’t put too many miles on it, it’s worth more to you than anybody else. That’s because you’re the only one who knows that. And you can never be sure about that for any other used car you might buy.

Given that you like your leased car and want to keep it, the next step is determining the current wholesale market value for your car. Car dealers call this the “ACV”, for actual cash value. Check the Internet for information on the value of your car. The best check on the wholesale value is to drive your car to 3 or 4 car dealerships that are franchised for your make. If you drive a Ford, visit as many Ford dealerships as you can and tell them you want to sell your car. You aren’t misleading them because it’s a lease car. You could exercise your option to buy it from the leasing company and then resell it to the dealer, if the dealer’s offer was higher. If you live near a CarMax store, the largest retailer of used cars anywhere, they buy a lot of used cars “over the curb” and their prices are often competitive. Be sure you get a quote from them. Two other sources for an accurate wholesale market value of your car are www.Carvana.com and www.WeBuyAnyCar.com. You can get an online estimate from each of these companies and they will also give you a firm cash offer when they see your car.

Now that you’re armed with the actual market value for your car, you can compare it with the residual value in your lease contract, the price you have an option to buy it for. You might get lucky and be able to sell your car to a dealer, www.WeBuyAnyCar.com, CarMax, or www.Carvana.com for more than your option price. If so, you can flip the car for a fast profit. It’s not unheard of to make $1,000 or more by doing this. If you want to keep your leased car, you should be sure that your option price is less than, or very close to the true wholesale market value. If not, you’re better off to give the leased car back to the leasing company and buy similar used car at a lower price. Car dealers, of course, mark up the wholesale value of their used cars by anywhere from $1,000 to $4,000+, so even if your option price is $1,000 or so above actual wholesale, it can still be good buy. Remember, you know that used car better than anybody and if you buy another used car, you don’t.