Scrutinizing Auto Add-Ons
In the 32 years that Jimmy Goodrum has been at State Employees’ Credit Union, he's heard countless stories from members about their financing experiences at car dealerships.
Goodrum, senior vice president of member education and outreach at the $27 billion SECU in Raleigh, N.C, recalled some of the surprises members have encountered.
“Add-ons, things like warranties and dent repair packages,” he said. “A member will go out and buy a brand new car with a 10-year warranty and then there's an additional three-year warranty added on that the member didn't know about.”
To help members prepare for some of the potential financing shocks, SECU has teamed up with the Center for Responsible Lending, a Durham, N.C.-based nonprofit research and policy organization. Through the alliance, CRL will provide research data to SECU on various costs associated with auto add-ons and financing, according to both partners. Members will also learn what questions to ask and what details to look for in the fine print to avoid unnecessary expenses and fees, which increase the overall cost of a car loan.
Credit unions providing financial education to members to help with their vehicle financing decisions is not a new concept. However, with the economy back on a recovery track, more consumers are regaining confidence when it comes to buying large ticket items such as cars, the CRL said, and that assurance may open the door to ignoring important, fine-print details that could substantially increase the price of a car over the life of the loan.
The CRL has found that too many car loans are manipulated with overcharges, high interest rates and unnecessary add-on costs, said CRL SVP Chris Kukla.
When a car buyer finances a car through a car dealer, he or she signs a contract with the dealer for the car purchase and loan, Kukla said. In the vast majority of cases, the dealer will quickly get funding for the loan by selling that contract to a third party, such as a bank or finance company, he noted.
The potential funders also receive the consumer's financial information to help them determine pricing on the loan. The dealer then collects bids from interested financial institutions, which outline the terms and conditions the funder will accept, including the interest rate.
“What most car buyers don't know is that the bank funding the loan allows the dealer to increase the interest rate for compensation,” said Kukla.
For example, a bank may be willing to buy the contract as long as the interest rate is at least 4%, but will permit the dealer to charge the consumer up to 6.5% interest, he explained.
The CRL estimates that for dealer-financed cars bought in 2009, for instance, over the life of their loans buyers will pay $25.8 billion in interest solely attributable to this markup, said Kukla. In 2009, the average markup was nearly 2.5%, hiking costs for each loan by hundreds of dollars.
“While we believe dealers should be compensated for the work they do in financing cars, they shouldn't have arbitrary discretion to take more in compensation from some buyers than others,” Kukla suggested.
To prevent markups from occurring, many credit unions compensate auto dealers using only a flat fee arrangement such as a fixed percentage of the loan amount. In addition, the use of fully automated underwriting and reasonable limitations on refundable back-end products have also helped to stem markups.
Goodrum doesn't want to disparage all car dealerships for the sins of those not playing by the rules.
“We need auto dealers, they provide a good service and here in North Carolina, they employ a lot of people,” said Goodrum. We understand they have to maximize their profits and there's nothing wrong with that. But there's a lot of information out there where a member gets an interest rate on a loan, even a risk-based situation, and they could have qualified for a lower rate.”
The CRL's partnership with SECU comes on the heels of a report released by the center earlier this year that found that despite their attempts to negotiate pricing just as much, if not more than white consumers, Hispanic and black car buyers still received higher interest rates on loans financed through dealers.
African-Americans and Latinos were nearly twice as likely to be sold multiple add-on products as white consumers, according to the report. Add-on products such as various kinds of warranty and insurance coverage were sold at the dealership's financing office, often with significant price markups.
Dealers sold African-Americans and Latinos multiple add-ons approximately 30% and 27% of the time, respectively, compared with 16% of the time for whites, the findings noted. Multiple add-ons were also associated with greater chances of delinquency and therefore create a greater risk of repossession, the CRL report read.
Goodrum said while SECU doesn't have any special programs to help members spot discriminatory practices at dealerships, the credit union goes out its way to help them identify where they might qualify for discounts and better rates.
“We acknowledge that there are some things at dealers that just aren't right and it's unfortunate that it happens,” said Goodrum. “We understand that the CRL data is real life and it's something for us to include when we try to educate members.”