NADA endorses percentage ceiling on dealer reserve

NEW ORLEANS -- The National Automobile Dealers Association today endorsed a plan under which each auto dealership would establish a percentage ceiling for its dealer reserve -- the money paid to the dealership for its role in arranging car loans for retail customers -- and then, if it dips below that fee level on a transaction, document why.

The proposed policy, which many dealerships already follow, aims to help dealerships avoid allegations of discrimination. It comes nine months after the Consumer Financial Protection Bureau kicked off a campaign to monitor dealer reserve practices that the agency said enabled discriminatory lending, even if unintended.

This is the first time NADA has recommended a specific course of action to its members on the issue of dealer reserve in response to the CFPB. The dealer association plans to distribute its new "NADA Fair Credit Compliance Policy & Program" booklet to NADA members soon.

"We believe this approach addresses Fair Credit concerns, and at the same time it preserves many of the benefits of the dealer reserve structure," NADA General Counsel Andy Koblenz told Automotive News in an interview on Thursday.

'What do we do?'

"Members have been coming to us asking, 'What do we do? Is there anything we should be doing?'" Koblenz said.

Reasons for reducing the fee might include matching a rival lender's deal, for example.

NADA's recommendations mimic in some ways a 2007 consent order under which Philadelphia-area dealerships, including Pacifico Ford Inc., settled discrimination charges by the U.S. Justice Department.

The dealerships agreed to adopt fixed limits on dealer reserve, and to document legitimate business reasons any time they offered rates below the set rate. Some experts call that "the Pacifico approach," after Pacifico Ford.

Separately, the National Association of Minority Automobile Dealers, of Largo, Md., the Association of Finance & Insurance Professionals, of Colleyville, Texas, and dealership software provider DealerTrack Technologies Inc., of Lake Success, N.Y., recommended that approach in 2013.

AutoNation Inc. said in a release that it plans to evaluate NADA’s recommended process by “initially rolling it out to a selected group of our stores.”

The nation's largest auto retailer added, “Our intent is to ensure that we continue to offer customers the competitive rates, convenience, and full array of finance options that they deserve when they arrange financing with us.”

Dealer discretion

Dealer reserve is the dealership's share of the interest rate profit on loans originated at the dealership. The CFPB said in March it wanted lenders to stop giving dealerships discretion in setting dealer reserve, or dealer markup, on loans.

Dealer discretion on the fee can lead to higher interest rates for legally protected classes of borrowers such as minorities or women -- a "disparate impact," the CFPB said.

Instead of dealer reserve, the CFPB recommended flat fees, or some other form of dealer compensation that takes discretion for setting consumer interest rates out of the hands of dealers.

The CFPB doesn't have jurisdiction over auto dealers except for buy-here, pay-here dealers. But the CFPB says it holds lenders responsible for lender policies that allow dealer discretion which leads to discriminatory behavior.

In December, auto lender Ally Financial Inc. agreed to pay $98 million to resolve claims by the CFPB that Ally's manner of paying dealers for arranging contracts led minority car buyers into car loans with higher interest rates.

Coming to a boil

Since last spring, in response to CFPB pressure, lenders have been sending letters to some dealerships warning them that the lenders detected higher rates for dealer reserve for legally protected customers. In some cases the letters threatened the dealerships with termination.

That gives dealerships plenty of motivation to try and avoid CFPB-style accusations of discrimination from their lenders, even if the CFPB can't police the dealerships directly.

The CFPB won't say whether it has an opinion on the so-called Pacifico approach.

Patrice Ficklin, the CFPB's assistant director for Fair Lending, reiterated that the CFPB is OK with dealers getting compensated for acting as middlemen on loans, as long as they don't have discretion over setting customer interest rates.

"We are not saying dealers should add value for free. Dealers provide an important service for both lenders and dealers," she told the American Financial Service Association Vehicle Finance Conference here Thursday. "It's clear compensation is not the problem -- only one method of compensation."