What is the auto loan scam called dealer reserves?
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UPDATED: Aug 3, 2021
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Dealer reserves are the kickbacks that auto dealerships receive from banks for originating auto loans. When auto dealers get a buyer to finance a vehicle in the dealership, they mark up the interest rates to higher levels than a direct lender would leading to a higher monthly payment. That way, the dealer ensures a kickback from the dealer for the extra money made on the auto loan.
In fact, dealer reserves are the main source of revenue for car dealerships. New vehicle sales account for mere dollars for the dealership. In 2011, for instance, car dealers made an average of just $23 dollars per new vehicle sold. In the recent past, they actually lost money on every new vehicle sold.
As a result, they rely on originating auto loans in order to stay in business. When they do get a buyer to agree to dealership financing, the dealership marks the interest rates up, which the banks then pay the dealership with as compensation for the lead. They also try to sell products like extended warranties, gap coverage, and more.
Those markups, along with other services, amounted to an average $786,000 per dealership in 2011. That’s hundreds of thousands of dollars in dealer reserves that buyers could potentially still have if they got their auto loan from a different source.
Should You Get Financing before Your Purchase A Car?
An increasing number of borrowers are looking for loan approval before they go car shopping. It’s easy to let the dealer financing professionals run the numbers for you when you get there. Some even believe they’ll be more likely to find a loan offer. If you only apply with one bank or credit union, this may be accurate. With many loan brokers, you get an independent representative who can run your credit once and get multiple offers.
It’s important to realize every loan professional gets paid through some kind of commission. Some have service contracts with one financial institution. Unfortunately, this means that they are only able to offer you one option even if other lenders are more affordable.
If you’re working through an independent broker or dealer, the broker fee is paid by the lender. Some lenders may offer borrower paid loans, but it’s generally not advertised. More importantly, you’d have to pay the broker the same amount as part of closing to get the lower interest rate. While there are loan scams, simply charging a finder’s fee for processing a loan application is not one of them.
An auto dealership is able to offer higher interest rates in part because they have you on the hook, and they don’t necessarily have competition on interest rates and the actual price if you didn’t get preapproval somewhere else. The important part is to always compare different options to find the best option for you whether you have no down payment, bad credit, a perfect credit score, or something else.
If you feel you may be victim of loan scams, you can research online. Unfortunately, people lose thousands of dollars every year on fraudulent auto loans and loan payments that are higher than they need to be. You can also contact financial authorities to see what your options are.