The Fast and the Usurious: Putting the Brakes on Auto Lending Abuses
74 Pages Posted: 20 Aug 2019 Last revised: 20 Apr 2020
Date Written: April 17, 2020
The car loan market is rife with consumer abuses: inflated pricing, discriminatory lending, and a variety of deceptions and scams. These abuses all stem from the dealer-centric nature of the auto finance market that ties the vehicle purchase to the vehicle financing.
The overwhelming majority of consumers finance their purchases through the car dealer, but consumers cannot learn dealer financing terms in advance. They learn the offered financing terms only after spending substantial time and energy negotiating a car price, a trade-in price, warranties, insurance, and vehicle add-ons. At this point, because most consumers lack alternative financing options, they face a take-it-or-leave-it choice that leaves them especially vulnerable to dealer abuses.
Not only does the lack of alternative financing options deprive consumers of the protection of competition in auto loans, but competition in the dealer-based lending market also actually works against consumers. Dealers auction off loans to financial institutions based largely on which institution allows the dealer the greatest compensation in the form of a markup on the loan. These ultimate lenders compete for the dealers’ business, not the consumers’, which results in consumers paying supracompetitive rates because of the dealer markup. The discretionary nature of the markups also enables discriminatory lending, with minorities often charged more for car loans, as well as a number of outright frauds and scams that cannot occur with third-party financing.
This Article proposes to fix these auto lending abuses by requiring a three-business-day waiting period before delivery of the vehicle for con- sumers who do not have a bona fide third-party financing offer, as well as a prominently disclosed, penalty-free prepayment right for the loan during this period, and a system of mandatory data collection on auto loans to enable regulatory oversight. A penalty default waiting period would incentivize consumers to shop for financing separately from the vehicle purchase transaction, which will create positive competitive forces lowering dealers’ supracompetitive markups of financing, reduce opportunities for discriminatory lending, and protect consumers from other deceptive practices.
Keywords: cars, automobiles, dealer reserve, dealer participation, dealer markup, disparate impact, discriminatory lending, loan packing, yo-yo scams, indirect lending, direct lending, right of rescission, spot delivery, aftermarket tying
JEL Classification: D14, D18, D42
Suggested Citation: Suggested Citation