THE CAR EXPERTCar finance and buying advice

A car finance story on BBC News on Saturday has highlighted the public’s continued lack of understanding when it comes to car finance agreements, as well as the futility of debating the issue on social media.

The story was based on a discussion on the BBC Radio 4 programme Money Box a week ago, in which I was a guest panellist. We were discussing the increasing number of complaints about car finance in recent years, which originated from a Money Box listener who contacted the programme about her family’s financial predicament as a result of an ill-advised car purchase.

The particular example involved a 23-year-old woman, who was a first-year university student with a part-time job. She went to a used car dealership and ended up buying a £16K Audi on hire purchase, with total repayments of £21K over five years at a rate of £330 per month. She struggled with the repayments right from the start, then lost her job and now even with her family’s help she can’t afford it. She has now missed a couple of payments and can’t find a way out of the situation.

The programme introduced the topic using the case study of this particular family’s situation before a brief discussion of the latest complaints numbers from the Financial Ombudsman’s Service, a few words from the Finance and Leasing Association (basically the lobby group for the car finance companies) and a few words from me.

Illustrating the entire car finance industry with one example

Obviously, this young woman has made a serious financial mistake. That’s not in doubt at all. It has already caused her and her family a lot of grief, and there is no simple solution that lets them undo it all and start again.

The problem with the case study approach is that it’s very easy for the industry to push back on that one example and basically say “Well, she was stupid to buy a car she couldn’t afford. She’s old enough to know what she was doing. It’s her own fault, not the finance company or the industry.” The BBC certainly isn’t alone in this regard. I was interviewed for a programme on Channel 4’s Dispatches a couple of years ago that worked in exactly the same way, with exactly the same responses.

Predictably, the social media response to the BBC News article has also been full of sanctimonious preaching about how stupid this young woman was, how stupid her parents were for not raising her better, how taking out car finance is stupid anyway and that everyone should just buy £500 bangers rather than stupid near-new Audis.

The reality is that it’s not just one person who has made a big mistake, and trying to shut down the whole car finance discussion by shunting blame onto one individual’s bad decision avoids the larger issues.

Many thousands of people are getting into serious trouble with their car finance each year, and many more are having to make uncomfortable life decisions because they’re devoting too much of their monthly income to their car payments.

Repeated research, including by the finance companies themselves, shows that the vast majority of UK car buyers struggle to understand how car finance works. Other studies have found that buying a car is one of the most stressful experiences people have, so it’s not surprising that plenty of us struggle to make good financial decisions when choosing how to pay for a car.

What very few people, especially those with any connection to the car industry, want to discuss is how a 23-year-old uni student with a part-time job and minimal credit history was ever approved to borrow £16,000 (total repayment including interest and fees was about £21,000).

Unless it was a very well-paid part-time job, the monthly payments would swallow up a large chunk of her income. Even if the young woman was as completely idiotic as those unfriendly folks on Twitter have suggested, it should have been pretty obvious to those people whose jobs involve dealing with finance applications on a daily basis.

The business manager at the dealership should have realised that the payments were unrealistic as he/she was making the application to the finance company. The finance company’s automatic systems should have flagged it up as dubious, and the person at the finance company who approved the application should have known it was unrealistic. So why was the application not rejected at any point in the process?

The car industry and its associated finance companies need to start accepting more responsibility for how their agents – the shiny-suited salespeople in their dealerships – are selling these complicated car finance products. There are two very good reasons for this: firstly, and most obviously, for the benefit of customers. And secondly, because its in the industry’s own best interest.

Lending responsibly and treating customers fairly

The Financial Conduct Authority (FCA), which regulates the car finance sector in the UK on behalf of the government, requires that anyone selling finance must lend responsibly and treat their customers fairly at all times.

The biggest problem in the car finance process always seems to come back to the fact that the finance company does not deal directly with the end customer, but goes through a middleman in the form of the dealership. This is different from a bank loan, where you speak directly to someone at the bank when you apply for the loan and/or you are directly applying via the bank’s own software or paperwork.

With dealer financing, the authorised representative at the dealership (usually called the business manager) is acting as an agent for the finance company while also acting as a salesperson for the dealership. The dealership, in turn, may be operating as an agent for a car manufacturer but is usually owned by a different individual or company.

Once the dealership sells the car and the customer drives off, it’s no longer their problem if the customer defaults on the payments. It becomes a matter for the finance company to deal with. If the customer ever comes back to the dealer to say that they can’t afford the payments, the dealer just sees that as a chance to sell them a cheaper car and take another commission. If that’s not going to work, the dealer just fobs the customer off to the finance company.

This tangle of accountability and responsibility means the pressure on individuals and dealerships to sell more cars (and more car finance) usually trumps the obligation to sell and lend responsibly.

For the average person who generally has no idea how this tangled-up industry works, the whole process is confusing. They are inevitably guided by what the supposed expert in front of them in the showroom is telling them, just as they are with any other finance application.

Although the car industry denies it, there are uncomfortable parallels with the mortgage crisis and PPI mis-selling scandals that have rocked the banking world over the last decade. Due diligence takes a back seat to immediate profit, and keeps doing so until the bubble eventually bursts.

Car finance is the goose that lays the golden eggs

This site’s position on car finance has never been that it’s a good or bad thing. Like any financial instrument (credit card, mortgage, even a payday loan), there’s nothing wrong with any car finance product if it’s being sold responsibly and used responsibly.

The car industry is utterly reliant on car finance for its survival. Things like Brexit and free-trade deals are trivial in comparison. Over the last decade, the number of people financing their new and used car purchases at the dealership – rather than via a personal loan or other means – has skyrocketed, and this has significantly changed the entire industry.

As of mid-2019, about 91% of all private new car purchases are financed at the dealership, up from about 40% at the start of this decade*. The number of used cars financed through dealers has also increased at a similar rate. This is thanks to the prevalence of PCP car finance (largely provided by the manufacturers’ own finance companies), which encourages car buyers to borrow more money on more expensive cars.

As a result, the average value of each loan has increased spectacularly – along with the debt incurred by the car buyers. Ten years ago, the average amount of money borrowed on a new car in the UK was about £12K. Today it’s about £20K*. That’s a 60% increase, despite the fact that real incomes have not increased much at all over the last decade.

Given the enormous growth in customers arranging car finance via the dealerships, it’s no surprise that the number of complaints and problems have also increased. Most of the high-traffic articles on this site are those about how car finance works, how voluntary termination works, settling finance early and trying to escape financial penalties. Our forums and article comments get questions at a much faster rate than we can answer them.

If everybody took the advice of the sanctimonious Twitterers and simply bought cheap cars with their cash savings, the whole car industry would collapse. The £500 bangers won’t exist unless someone has bought those cars in the first place several years ago and then they’ve eventually depreciated away to a level that the average person can afford to buy with cash.

The whole car industry is built on a foundation of people buying cars they don’t need with money they don’t have. Whether that is right or wrong is not the question that we’re currently trying to answer, but if the industry wants things to continue as they are, it’s incumbent on the manufacturers and finance companies to make sure that absolutely nothing jeopardises the ongoing provision of finance to their customers.

What needs to happen?

The industry opposes any suggestions that affordability rules need to be tightened, yet the number of people running into trouble with their car finance continues to increase.

This is not an isolated case and it’s time for the industry to do better. If that means sacrificing some sales and/or forcing people to buy cheaper cars, so be it. Brands like Audi and BMW may lose out but cheaper brands will do better.

Cowboy dealers who push customers to borrow more money than they can realistically afford in order to flog a few more cars this month need to be pulled into line. If that means they lose their ability to source finance altogether or even lose their franchises, so be it. There are more than enough car dealers in the country, so losing a few bad apples is no bad thing.

The alternative is to keep doing nothing until the FCA decides to tighten regulations to a much tougher level than the industry wants in order to protect consumers from themselves. That would have a much bigger impact on the whole industry, as it would almost certainly result in blanket lending limits being set that would affect hundreds of thousands of car buyers each year.

Unfortunately, both the car and finance industries have long histories of being unable to save themselves from their own greed. This issue is unlikely to change that.

*Source: Finance and Leasing Association