Let’s Shut Out the Noise – and Think Logically About What a Post-Reserve Processes Would Look Like – and Why

The CFPB is pressuring to eliminate dealer finance participation, and wants lenders to move to flat fee payments to prevent potential discriminatory lending. Hardly a newsflash. But over this last year of very loud saber rattling on both sides, all of the focus has been on how this will impact dealers’ wallets. Almost no attention has been paid to what the end of the dealer reserve model would logically mean for the current sales and financing process – on both the dealer and lender side.

So, I want to offer a little clear-headed “thinking through” – shut out all the noise, and rationally consider what nixing dealer reserve would mean, at the most basic levels, for the current sales process. We need to perform these thought experiments to be prepared if the CFPB does act – and also to consider how financing could be improved even if they don’t.

1. I) The Current Dealer-Reserve-Focused Financing Model:

First, let’s review how cars are currently bought and financed.

Everyone knows that consumers are forced to trudge through time-consuming stages: from test-drive, to negotiation, to final stop, F& I. And when they hit F&I, because of the dealer reserve model, this is the drill: managers set finance terms/APRs based on educated guesswork. They look at the customer’s credit history, and then whip through their pile of lender rate sheets, and set terms without any involvement on the part of lenders. And without true knowledge of lenders’ real, precise terms and credit policies – which are so complex that no human could master the ins-and-outs of them all.

Then, given the entrenched loan aggregator model, they spray and pray these terms to lenders, sitting back and waiting for lenders’ ‘black boxes’ (where real pricing and credit policies are locked up), to return terms that deliver the most profitable “buy rate.” The profits, of course, lie in the gap between the lender’s approved interest rate and the APR the finance manager wrote the purchase contract at.

The Cost of “Now”: Because it’s “the way it’s done,” dealers don’t really consider what this back-and-forth, shot-gunning of guesswork-based loans really costs them (and their customers and lender partners.)

• A significant percentage of deals either unwind or have to be completely rewritten.
• The back-and-forth in F&I is a key contributor to the average 4-hour sales and financing process at dealerships.*
• Lenders are forced to process all apps, when only a percentage match their loan programs and get funded.
• Upfront transparency into approval/funding decisions is virtually impossible, so investigations into discrimination always remain a threat.

1. II) Changes in a Post-Reserve World: Now let’s look at key ways that the dealer financing process would be forced to change if the CFPB acts…

The Financing Piece HAS to Move Up: In a post-reserve world, one major change would come: the way that dealers currently negotiate finance terms, monthly payments and interest rates without lender involvement would no longer be possible. The lender interest “buy rate” would have to become the same as the consumer contract interest rate/APR. Dealers would need to nail down the lender and final approval terms before contracting with the consumer, because if they didn’t, they would be hit with an impossible storm of purchase contract re-writes, unwinds and reduced profit.

That means that the financing component would have to move RIGHT UP to the point of sale, whether online with credit app platforms that return real loan terms/approvals, or at the start of the process in-dealership. It would mean goodbye to the traditional system of interest rate guesswork and all the loan app back-and-forth now happening at the end of the sales process. Because for a dealer to structure a profitable finance deal, lender approval terms must be known, done, locked up and transparent at the get-go.

Dealerships, of course, provide very, very important services (for consumers and lenders) in auto financing, and in a post-reserve world they will still profit. If new regulations happen, we might see profits on loans getting front-loaded for dealers – but based on amount financed, not the customer’s credit qualifications.

The End of the 4-Hour Process:. Top dealer consultants like Grant Cardone have recently argued that the amount of time being wasted on a car sale has to be tackled, because people don’t even want to come into the showroom anymore!

Well, if the CFPB eliminated dealer reserve, and final loan terms have to be in place at the point of sale, the sales and financing process would naturally shorten. The process would be rationalized, and sales and financing would be more integrated, shaving hours off the current process. That would make consumers very happy – and dealers far more efficient.

New Technologies Needed: If the CFPB acts, dealers and lenders will need new technologies and processes, if they want to be able to execute on bringing final, approved loan terms up front – and if they want to be able to show transparently and easily that each funding decision was discrimination-free.

We will need new ideas like industry-neutral loan decision engines that can bring real, final financing decisions and terms to the front of the sales process (either online or at a dealer kiosk). This can only happen if such a technology platform allowed all lenders to input their exact credit programs and loan rules terms into the “engine.” Such an “engine” could then match all this lender data to the consumer’s credit file and selected vehicle/vehicle price, to generate real, final terms of approval, displayed to the dealer or consumer instantly.

And it would be able to provide complete transparency into funding decisions, because it could program loan underwriting guidelines for each lender consistently. That means dealers and lenders would be able to show the CFPB a clear audit trail on every decision – always and easily. That would get the compliance and discrimination-charge monkey off their backs for good.

A digital platform like this – with lender program integration at its CORE – could transform auto financing. It could take the whole sales/financing process to under an hour. Costly loan rewrites and unwinds would be eliminated. Lenders would only incur costs for credit apps they’re likely to fund. And it would provide the only logical, manageable compliance protection, if new regulations hit.

Transparency Finally Swings in Dealers’ Favor:

There’s much talk about how online car buying has brought a new era of “transparency.” But all of that transparency is now in the CONSUMER’S FAVOR. Stealth online car shoppers get to know everything about the vehicle, the price and the dealer, but they hide behind a virtual cloak of anonymity. If they fill out a lead form, dealers have to endlessly follow up to find out whether they actually want to buy a car, or if they can afford to, at all. But in a world where financing HAS to move up to the starting gate, transparency is going to swing wildly in the dealer’s favor. Dealers will know everything they need know about that shopper early in the process: who’s worth the effort – which people they can actually sell to. That’s powerful.

 This exercise in “thinking through” how the current sales/financing process works – and how it would necessarily change if the CFPB acted – shines some light on what would be needed in a post-reserve world. But it also illuminates how irrational the current process is. And how, at some very fundamental level, a post-reserve model would ultimately benefit dealers.

We need more honest discussions of where we’re really AT with dealer financing: not only where the CFPB could make us GO – but what processes and technologies could make lenders and dealers much more efficient and profitable, no matter what they say.

*Field study of 200 dealerships by consultant Mark Rikess, reported in Automotive News, February 2014.

By Pete MacInnis, Founder & CEO, E-Lend Solutions  (DealerCentric rebranded)

Pete MacInnis founded eLEND Solutions™ in 2003 as DealerCentric Solutions. With 34 years of leadership experience, the company’s Get Pre-approved in Seconds program has become recognized as the industry leader in online credit application programs. His mission: to marry his vast auto finance experience to advanced new online/technology platforms, all to provide a better sales and finance experience for consumers and a more efficient process for the entire automotive industry. Pete began his career with WFS Financial where he spent 14 years in various management positions that helped grow the company from $100 Million in assets to over $4 billion serviced. Pete left WFS and co-founded auto finance company Onyx Acceptance in 1993 which went public in 1996 and was acquired by Capital One in 2005 for $191 million. 

This byline appeared at CBT News: http://issuu.com/cbt_news/docs/2014augustissue/23?e=11824737/8715415