Car shoppers with bad credit have bolstered the trend toward car dealers that offer their own financing along with the vehicles. This type of business should not be confused with a franchise dealer aligned with a finance company owned by a car manufacturer, such as a Ford dealer with ties to Ford Motor Credit Company.
Typically, dealers in new cars are franchises of the manufacturers, such as Ford, Fiat Chrysler or Toyota. To buy a new vehicle from a dealer in this category, a person normally tours the lot, picks out the most suitable vehicle and then secures a loan from a credit union, a bank or the finance company representing that franchise.
That lender relies on credit checks and other means to ensure that it is extending credit to someone likely to pay on time and in full. A poor credit rating will often disqualify a prospective buyer from this customary path to purchase. Traditional lenders have succeeded by weeding from their customer base borrowers who have accumulated on their records a history of failing to pay.
But from this process has arisen an industry comprising local dealers who not only sell cars but finance them, too. They are independent of any manufacturer or any manufacturer finance company. They know they will usually deal with customers who have been spurned by new-car dealers and traditional lenders. As a result, these on-the-lot-financing dealers almost always market a lot full of used cars. Used cars are less expensive and thus represent less of a financial commitment than the new cars down the street.
But these dealers are not offering to sell and finance a car for someone with bad credit because they are altruistic. They are in business to make as much money as they can through the financing, as well as the sale. In many cases, a used-car dealer will make more profit on a used-car loan than on the sale of the used car itself. These on-the-lot-financing dealers are actually a reinforcement to all of the importance of retaining a good credit rating. The truth is that, while they provide an important service to communities and certain community members, they are usually not the first choice for anyone who has protected his or her good credit.
The explosion of personal bad credit in the first decade of this century has led to the creation of these on-the-lot-financing dealerships, which even have an acronym: BHPH — buy here, pay here. BHPH dealers are taking a chance on their customers, though it’s not as much of a chance as it may appear. Most insist on a customer’s proof of residence — they don’t want buyers skipping out because they are not tied to the area — and income. Certifying an income shows the dealers that buyers have enough money coming in to be able to afford the payments.
And therein is the biggest difference between doing business with an on-the-lot-financing dealer and a typical franchise-connected dealership. Loans from a BHPH dealer are going to cost a lot more than one from a credit union, bank or franchise finance company.
Sixty percent of auto purchases are for used cars, even though many lenders charge a higher rate of interest for a used car than for a new one. Some people want a less-expensive car — perhaps they want a used car for their teenager, for example. But a lot of people buy used cars because they can’t afford a new one or can’t qualify for a loan from a financial institution.
On-the-lot-financing dealers do have advantages for some buyers. The most obvious is that, for poor-credit shoppers, they may be the only option.
In addition, making those car payments — though admittedly high in interest — can help a borrower restore broken or damaged credit. And the dealer may exercise more flexibility in arranging provisions of a loan.
And BHPH dealers may be willing to take older cars in the worst condition as a trade-in — cars other dealers probably wouldn’t accept.
But there are liabilities with doing business with BHPH dealers, beyond the expected lesser quality of the available cars and the higher payments. Here are some:
- The lots generally require payment to be made, monthly or more frequently, on site, meaning the buyer must live within relatively close proximity to the dealer. If the high-interest payments cannot be made, it becomes easy for the dealer to repossess the vehicle.
- In contrast to new-car dealerships where customers browse, find the car to their liking and then arrange financing, an on-the-lot dealer will first investigate the customer’s financial capacity and then point out the cars on the lot that the customer can afford. Choice is thus restricted.
- Buying at an on-the-lot dealer may not repair bad credit after all. Many are small dealers who do not offer sophisticated administrative functions and may not report customers’ payments to credit-monitoring companies until after the loan is paid off. Dealerships that don’t conduct credit checks before purchase are not required to work with the credit agencies. So all those on-time payments the credit-poor borrower is making in hopes of recovering sound credit could be gaining nothing in that regard.
- The vehicles themselves are probably three or four years old, or more. They may have high mileage already and be less reliable.
- On-the-lot financing can allow very long repayment plans — perhaps up to seven years — which will keep the borrower in debt longer, paying excessively high interest rates.
- On-the-lot financing can encourage the borrower to commit to more than is in the borrower’s best interest because, in the end, the dealer can approve any loan, prudent for the buyer or not.
- Dealer-arranged financing agreements can also hide fees within the loan, from loan-origination fees for a few hundred dollars to exorbitant warranty fees for thousands. Buyers should pay close attention to all contracts and question unfamiliar items, but they should also be aware that some dealers are very skilled at “selling” certain unneeded provisions. All of this is especially true of on-the-lot financiers.
On-the-lot vehicle dealers serve a purpose, and a necessary one. Many people would not be able to afford a vehicle without such an arrangement. The best advice is for people who can arrange vehicle loans with a credit union to do so. And, if you have credit standing good enough to procure that kind of loan, do whatever you need to do to keep it.
For the customer with the risky credit, though, on-the-lot financing may be the only answer. But they must be shrewd and wary as they work their way through the transaction. They must scour, not only the prospective vehicle, but the prospective loan agreement. It is always wisest when considering buying a car — either a new one off the manufacturer-connected showroom floor or a used one off the lot around the corner — to consult your credit union. Your credit union will always offer the most sage advice on any financing arrangement and might even be able to arrange financing for you.
Just as a breakdown is more likely when driving an old car than a new one, a breakdown in the financing is more likely in a BHPH loan than one from a financial institution.