Think Twice About Pricing a Car Based on Credit Quality

The news report was depressing: A bankrupt car dealer accused of pressuring bad-credit customers into paying inflated prices for shoddy vehicles agreed to a term in federal prison for lying to banks. The dealer pleaded guilty to a charge of conspiring to lie on financial reports submitted to the institutions that financed his operations. He’ll be sentenced in January.

The dealer, indicted by a grand jury on 28 counts of bank, wire and mail fraud, had been set to face trial next month. If convicted, he faced up to 30 years in prison and a $1-million fine. The dealer admitted that he and his partners manipulated reports to give banks false information about the dealership’s financial state, inducing more loans from a coalition of banks.

The banks’ estimated total losses were more than $21 million, but prosecutors acknowledged as part of the plea deal that the banks' conduct could have contributed to the defendants' behavior. The defense lawyer, referring to his clients’ conduct, said, "They weren't trying to steal anything. They were just trying to keep the business alive."

Yes, it's always depressing to read about a desperate dealer, facing hard times or possibly even the loss of his business, yielding to temptation and flimflamming his banks or finance companies. Maybe, somewhere, a dealer has gotten away with this last-ditch ploy, but it seems that nearly always the dealer does a crash-and-burn.

"OK," I said, "another dishonest dealer goes down in flames." No news there. But then I got to a paragraph near the end of the story which really caught my attention.

The paragraph described an earlier problem the dealer had with the state’s attorney general. It recounted that the dealer filed for bankruptcy in 2005 shortly after a complaint from the AG. According to the earlier complaint, the dealership had engaged in several practices that the AG disapproved of.

According to the AG, the dealer's employees systematically refused to tell customers the prices of cars until after the dealer's employees collected financial information. Customers were then told they were qualified to buy only specific vehicles, often at interest rates approaching 25 percent.

It wasn't clear whether the dealer seriously contested the AG's action, but investors who bought the buyers' contracts eventually agreed to modify them for roughly 250 customers and cut interest rates to 17.95 percent. It also wasn't clear whether the investors put up much of a fight, either.

But what's wrong, you ask, with not telling a customer a car’s price until you know how good or bad the customer's credit is? In fact, haven't you been to industry conferences where “expert” sales training folks have taught essentially these techniques? I know I have.

Here's the problem with this practice. If the dealer prices a car at $12,000 for a cash buyer and $13,000 for a credit buyer, or prices a car at $12,000 for a “good credit” buyer but at $14,000 for a “bad credit” buyer, the bump in price, in both instances, permits the AG to argue that the increased price is a proxy for finance charges, and the increase would need to be disclosed as a finance charge and included in the APR.

What's a dealer to do in order to avoid an up-close-and-personal meeting with his state's AG? We recommend that dealers prominently price all their cars (as some state laws require). The price is the price, no matter who is buying or how they are paying.

Dealers resist the advice, but it's the only way I can think of to position the dealer to defend allegations like these. If your sales practices resemble those described above, you might want to sit down with your friendly local lawyer, and make sure you lawyer is confident he or she can convince your state AG that your pricing practices are legal.

That is, unless you look really smashing in a day-glo prison jumpsuit.

Vol. 7, Issue 11