The Blind Leading the Sighted

What do you call it when people who know little about an industry insist on telling those who know a lot how the industry should operate? In the federal government, it is called “business as usual”, and it’s exactly what is going on with the Consumer Financial Protection Bureau’s efforts to regulate car dealer financing.

With alarming frequency, we are seeing stories that the CFPB is intent on taking action to eliminate dealer finance reserve opportunities. CFPB’s enabling legislation exempted franchised motor vehicle dealers and some independent dealers from the agency’s direct regulatory oversight. However, that has not discouraged it.

According to various reports, the CFPB intends to sue some banks over auto loans and what dealer critics like to call “mark ups”. Those critics have long hated the reserve system, arguing that finance reserves are the same as yield spread premiums for brokers who sold home mortgages, a practice that is widely blamed for the financial crisis. That is a false comparison since brokers walked away after placing the home mortgages, while finance reserves are created as a result of financing a customer’s purchase of a motor vehicle from a dealer that remains involved and dedicated to solve problems. Nevertheless, because of years of negative publicity about “mark ups”, vehicle financing with reserves has gotten a bad rap by many who do not or choose to not understand the process.

CFPB attorneys and their anti-dealer allies apparently want to tell dealers what they may make on the sale of financing, and they apparently believe that embroiling a few finance sources in expensive litigation and bad publicity with charges of lending discrimination is the road to that destination. Apparently, proponents of these lawsuits hope that they will have what lawyers call an “in terrorem effect” – sue a few banks, and this will scare other finance sources into demanding that dealers accept flat fees for financing.

Unfortunately, no one truly understands the fall out of eliminating the tried and true reserve system and replacing it with a flat fee system for selling financing. The result is likely to be negative for vehicle sales as finance and insurance personnel will have less financial incentive to help buyers find the right financing alternative and to fight to get tough deals done.

So what does this mean to you?

             •    Let your finance sources know of your preference for the present reserve system. Make sure that your   finance sources know that you do business with them because you can be adequately compensated through reserves for the work you do creating accounts for them.

             •    Understand the importance of the present system. There is a widespread misunderstanding by many of how the present reserve system works and its benefit to vehicle buyers and finance sources. It works for consumers because it provides adequate compensation to F&I professionals to provide information on the best options, to help buyers understand the options, to package transactions properly so that they can be adequately considered by finance sources, and where necessary to fight for financing approval for customers. It works for finance sources because dealers create accounts with no infrastructure costs for the finance sources that buy the paper. Dealers should be properly compensated for their work.

            •    Use a system in your dealership when selling financing.  Adopt strict policies for F&I personnel to avoid charges of discrimination in rates.  There are several methods of doing this such as rate sheets depending on credit tier or a pre-set reserve target across credit tiers. Deviations from that for non-discriminatory reasons such as the need to meet competition should be permitted. And notes of the reasons for deviation should be kept in every deal.

           •    If you are asked to help, do it.  It is easy for those unfamiliar with the car business to condemn the present system as a money grab by dealers. It requires hard work (and more important an open mind) for someone not conversant in industry matters to take the time to understand why the system works for everyone – buyers, dealers, and finance sources. Regulators, political leaders, and opinion makers in the media should understand the benefits of the present system. If you are ever asked to assist in doing that, take the time to do it. It is important for your business.