When you buy a car on credit you really have two options: take a loan out directly with a lender or through the dealer at the car yard.
You might think that the dealer, incentivised to make a sale, would get you a great deal.
Instead, it’s been a little-known secret that arranging the loan might be more profitable for them than selling the car itself.
It’s why the regulator ASIC (the Australian Securities and Investment Commission) intervened late last year to tighten a loophole that has for years locked Australians into paying sky-high interest payments for the life of the car loan.
Up until 1 November 2018, you could walk into any two car yards and pay two interest rates that were worlds apart.
You could be in the same financial situation, buying the same car for the same price, and even be borrowing from the same lender and you might find yourself paying thousands of dollars more for one car loan, consumer advocate Gerard Brody told YourMoney.com.au
“The lender allowed the car dealer or the broker to set the interest rate. The higher the rate they gave you, the higher their commission,” the Consumer Action Law Centre executive said.
These middlemen were effectively receiving a kickback, known as a ‘flex commission’ for organising the finance for you, making more money by inflating the lender’s interest rate before passing it on to you.
“Lenders set up these structures that were attractive and paid income to brokers or dealers so they would, in turn, sell their loans onto customers,” Brody said.
Dealers in some instances were making as much as four times more money with these flex commissions before they were banned.
“It’s a huge change because this has been a practice for 40 years”
Meanwhile, lenders lined their pockets as well, enjoying the increased profits that came from these bad deals, a status quo that Brody described as a “gravy train”.
It was a win-win for everyone except the person buying the car, who was spectacularly swindled, unknowingly paying kickbacks for years after their original purchase.
In the wake of the financial services commission, it’s déjà vu for consumers all over again.
“Commissioner Hayne asked why commissions should be justified in the finance sector given they create this inherent conflict of interest,” Brody said.
“This industry, and the dealers and brokers particularly, weren’t able to manage that conflict of interest. They haven’t been transparent, and they haven’t demonstrated that they always act in the customer’s interests rather than their own,” he explained.
According to the royal commission, nine in every ten cars sold in Australia are arranged through finance of which nearly 40 per cent are financed by a dealership.
It raises the question: why would Australians knowingly sign up to these arrangements in droves?
Brody said it’s because they simply had no idea this was happening,
“They were not informed in their contracts or on any of the documentation they received that this was going on. It’s hard to complain about something when you don’t know about it,” he explained.
“I would say to anyone, don’t get finance from the car yard.”
In implementing the ban on these commissions, ASIC commissioner Danielle Press said the regulator was “particularly concerned about the impact on vulnerable consumers less able to protect their interests.”
However, given none of this came to light before ASIC stepped in, people from all walks of life have been trapped paying all sorts of fees unbeknownst to them.
“I think many of us are in that situation, where not knowing you might be able to shop around you just accept that rate,” Brody admitted.
A line in the sand
The flex commissions ban has however changed the nature of dealership finance, according to Toyota, the largest player in the space.
Toyota Financial Services chief executive John Chandler told Trading Day host Adam Creighton that the change was unprecedented.
“It’s a huge change because this has been a practice for 40 years,” Chandler said. “Even the mindset of the dealers, we’ve had to work hard to get that set.”
Now, many dealers are assessing customers’ ability to pay back the loan to determine their interest rate, instead of simply charging what they are able.
“If you don’t like our quote, obviously go somewhere else.”
“Not everyone has a finance arm, but the ones who do have to respond in various ways. We’ve chosen the personalised risk-based approach,” Chandler said.
Given the simplicity of getting a car loan through a dealer, it’s also a finance arm that is unlikely to disappear.
“You go into the dealership [and provide] a driver’s license plus two other questions is all you need to do. That information gets fed into the computer and three seconds later you get a price,” Chandler explained. “It’s very simple.”
Are we there yet?
However, even after flex commissions were scrapped, the question remains: is it ever a good idea to take out your car loan at the point of sale?
Chandler said that the ASIC ban has made dealership finance more affordable and competitive.
“We’re very happy with the direction [ASIC is] taking because we think it’s a better deal for consumers and we’ve been working with our dealer network for a while to respond to these changes,” he said.
Brody, however, remains unconvinced.
“I would say to anyone, don’t get finance from the car yard,” Brody said.
“While this ban removes the most egregious aspects of commission-driven sales, commissions are still part of lending in car yards so until that’s removed entirely, I think we’re going to still see some problems,” he explained.
Beyond the fact that you’re still paying extra for someone to arrange the car loan on your behalf, Brody said there are other potholes you could hit before you even drive out of the dealership.
When you sign on the dotted line, you still might be buying useless extended warranties or insurance policies that are sometimes bundled into the loan, Brody says.
“Many of these insurances offer little or illusory value to the customer”
Again, the dealer takes their cut from selling these on, and while flex commissions might not be on the table anymore, these certainly are.
“It’s not uncommon for us to see people be given multiple insurances with their car loan sold at a car yard,” Brody explained.
These types of insurance include consumer credit and comprehensive car insurance as well as things like ‘gap insurance’- which, in case you write-off your car, purports it will cover the amount still owing on your loan.
While buying separate car insurance is not a bad idea, the policies sold out of car yards sometimes aren’t worth the paper they’re written on.
“When you look at the detail, many of these insurances offer little or illusory value to the customer,” Brody said.
“The data shows that the payouts from these sorts of insurances are low and that there are high levels of declined claims. You simply aren’t getting a good deal,” he explained.
How to get a better loan
If you’re in the market for a car and are looking for finance, there is one golden rule that everyone agrees on.
“I would recommend people shop around is what I would say. If you don’t like our quote, obviously go somewhere else [but] we think on average that people are going to be better off and we’ll be able to finance more at the dealership,” Chandler said.
Remember too that you can compare rates between lenders without wearing out your shoe leather, Brody said.
“Whether it’s with your bank or other lenders, look online and you’re likely to get a much better interest rate that way, not to mention that you’re not going to get higher pressure sales tactics for these add-on products,” he explained.
Knowing what to be aware of now might be all well and good, but what if you’ve already been ensnared in a dodgy car loan?
The Consumer Action Law Centre offers a free service at demandarefund.com.
“You answer some questions and a legal letter is sent directly to the insurer demanding a refund be made,” Brody explained.
“I’d encourage people to do that if there’s been misselling of some description, high-pressure selling or perhaps you weren’t even eligible for the insurance to begin with,” he said.
So far, the service has refunded more than $1.5 million to customers, with that number only expected to grow.
Watch the full interview with Toyota’s John Chandler below.