Finance and Insurance - The Profit Center
I would like to make myself clear on a few items of interest before I get too deep into the sales processes at any dealership, including: automobile, recreational vehicles, boats, motorcycle, and even furniture or other big ticket items. A business has to turn a fair profit in order to stay in business. I believe that they should make this profit and use it to pay better quality employees a premium wage in order to serve you better. The financial strengths or weaknesses of any business can definitely have a dramatic effect on your customer service and satisfaction. I do not, in any shape or form, wish to hurt a dealerships profitability, as it is essential for his survival. I merely want to advise people how to negotiate a little better in order to make the profit center more balanced.
Let's get right down to this! Every dealership has a finance and insurance department. This department is a huge profit center in any dealership. In some cases, it earns more money than the sale of the automobile itself. Profits are made from many things that most buyers do not understand.
You as a consumer should understand the "flow" of the sales process to understand the profit centers that are ahead of you. Most negotiating from the consumer seems to stop after the original price is negotiated and agreed upon. Let's examine just a small portion of what leads up to that point.
The first thing that every consumer should understand is that when you go to a dealership several things come into play. One of the most important things that I could point out to you is that you are dealing with a business that has been trained to get the most amount of money from you as they can. They are trained and they practice these tactics everyday, day after day, week after week, month after month, and year after year. Let me point out a couple of important facts that I have said in this paragraph. First, you'll notice that I said a dealership and not a salesman and secondly, I emphasized times of day after day, week after week, etc. etc. This was done to let you know that the salesman is working very closely with the sales managers in order to make as much money as he can. Your interests are really not their objective in most cases.
One tactic that is used heavily in the business is that the salesman says he is new to the business. This may be true or not, however; keep in mind that he does not work alone. He is working with store management, who gives him advice on what to say and when to say it. These guys or gals are very well trained on how to overcome every objection that you may have to buying from them. They have been trained in the psychology of the buyer and how to tell what your "hot buttons" are. They listen to things in your conversation that you may say to one another as well as to the salesman. They are trained to tell their desk managers everything that you say and then the desk manager is trained to tell the salesman exactly what and how to answer you. A seasoned salesman does not need as much advice from his desk and may negotiate a little more with you directly without going back and forth.
The process of negotiation begins the moment that you walk into the front door or step foot out of your car and begin to look at vehicles. Different stores display inventory in different ways. This is done for crowd control or more commonly known as "up control". Control is the first step in negotiating with a customer. Ever who asks the questions controls the situation. Let me give you an example: A salesman walks up to you and says "Welcome to ABC motors, my name is Joe, and what is yours?" The salesman has just asked the first question- you answer "My name is George." He then asks you what you are looking for today, or; the famous "Can I help You?" As you can see, step after step, question after question, he leads you down a path that he is trained to do.
Many times a well trained salesperson will not answer your questions directly. In some cases, they only respond to questions with other questions in order to avert the loss of control. An example of this could be something like you asking the salesman if he has this same car with an automatic rather than a stick shift. Two responses could come back to you. One would be yes or no, the other could very well be something along the lines of: 'don't you know how to drive a stick shift?" In the second response the salesman gained more information from you in order to close you. Closing means to overcome every objection and give your customer no way out other than where do I sign. The art of selling truly is a science of well scripted roll playing and rehearsal.
We have established that the negotiating process begins with a series of questions. These questions serve as two main elements of the sales process. First and foremost is to establish rapport and control. The more information that you are willing to share with you salesman in the first few minutes gives him a greater control of the sales process. He has gathered mental notes on our ability to purchase such as whether you have a trade in or not, if you have a down payment, how much can you afford, are you the only decision maker (is there a spouse?), how is your credit, or do you have a payoff on your trade in? These are one of many pieces of information that they collect immediately. Secondly, this information is used to begin a conversation with store management about who the salesman is with, what are they looking for, and what is their ability to purchase. Generally, a sales manager then directs the sales process from his seat in the "tower". A seat that generally overlooks the sales floor or the sales lot. He is kind of like a conductor of an orchestra, seeing all, and hearing all.
I cannot describe the entire sales process with you as this varies from dealer to dealer, however; the basic principals of the sale do not vary too much. Most dealerships get started after a demo or test drive. Usually a salesman gets a sheet of paper out that is called a four square. The four square is normally used to find the customer's "hot points". The four corners of the sheet have the following items addressed, not necessarily in this order. Number one is sales price, number two is trade value, number three is down payment, and number four is monthly payments. The idea here is to reduce three out of the four items and focus on YOUR hot button. Every person settles in on something different. The idea for the salesman is to get you to focus and commit to one or two of the hot buttons without even addressing the other two or three items. When you do settle in on one of the items on the four square, the process of closing you becomes much easier.
One thing to keep in mind is that all four items are usually negotiable and are usually submitted to you the first time in a manner as to maximize the profit that the dealer earns on the deal. Usually the MSRP is listed unless there is a sales price that is advertised (in may cases the vehicle is advertised, but; you are not aware). The trade value is usually first submitted to you as wholesale value. Most dealers request 25-33% down payment. Most monthly payments are inflated using maximum rate. What this all boils down to is that the price is usually always negotiable, the trade in is definitely negotiable, the down payment may be what you choose, and the monthly payment and interest rates are most certainly negotiable. If you do your homework prior to a dealership visit you can go into the negotiation process better armed. You still need to keep two things in mind through this process. The first item is that you are dealing with a sales TEAM that is usually highly skilled and money motivated. The more you pay the more they earn. The second item to remember is that you may have done your homework and think that you are getting a great deal and the dealer is still making a lot of money. The latter part of this statement goes back to the fact that it is essential for a dealer to make a "fair" profit in order to serve you better.
Once your negotiations are somewhat settled, you are then taken to the business or finance department to finalize your paperwork. Keep in mind that this too is another negotiating process. In fact, the finance manager is usually one of the top trained sales associates that definitely knows all the ins and outs of maximizing the dealerships profit. It is in the finance department that many dealers actually earn more than they earned by selling the car, boat, RV, or other large ticket item to you. We will break these profit centers down for you and enlighten you as to how the process usually works. Remember that finance people are more often than not a superior skilled negotiator that is still representing the dealership. It may seem that he or she has your best interests at heart, but; they are still profit centered.
The real problem with finance departments are that the average consumer has just put his or her guard down. They have just negotiated hard for what is assumed to be a good deal. They have taken this deal at full faced value and assume that all negotiations are done. The average consumer doesn't even have an understanding of finances or how the finance department functions. The average consumer nearly "lays down" for anything that the finance manager says. The interest rate is one of the largest profit centers in the finance department. For example, the dealership buys the interest rate from the bank the same way that he buys the car from the manufacturer. He may only have to pay 6% to the bank for a $25,000 loan. He can then charge you 8% for that same $25,000. The dealer is paid on the difference. If this is a five year loan that amount could very well be $2,000. So the dealer makes an additional $2,000 profit on the sale when the bank funds the loan. This is called a rate spread or "reserves". In mortgages, this is disclosed at time of closing on the HUD-1 statement as Yield Spread Premium. This may also be disclosed on the Good Faith Estimate or GFE. You can see why it becomes important to understand bank rates and financing.
Many finance managers use a menu to sell aftermarket products to you. This process is very similar to the four square process that I discussed in the beginning. There are usually items like gap insurance, extended service contracts, paint and fabric guard, as well as many other after market products available from this dealer. The menu again is usually stacked up to be presented to the consumer in a way that the dealer maximizes his profitability if you take the best plan available. The presentation is usually given in a manner in which the dealer wins no matter what options are chosen. With the additional items being pitched to you at closing, your mind becomes less entrenched on the rates and terms and your focus then turns to the after market products. Each aftermarket item can very well make the dealer up to 300-400% over what he pays for these items. Gap coverage for example may cost the dealer $195.00 and is sold to the consumer for $895.00. The $700.00 is pure profit to the dealer and is very rarely negotiated down during this process. The service contract may only cost a dealer $650.00 and is being sold for $2000.00. The difference in these items are pure profit to the dealer. You see, if you only paid $995.00 for the same contract, the dealer still earns $345.00 profit from you and you still have the same coverage that you would have had if you had paid the $2000.00. The same is true for the gap coverage. You are covered the same if you paid $395.00 or $895.00 if the dealers costs are only $195.00. The only difference is the amount of profit that you paid to the dealer. Another huge profit center is paint and fabric protector. In most cases the costs to apply the product are minimal (around $125.00 on average). In many cases the dealer charges you $1200-$1800 for this paint and fabric guard.
As you can see, these products sold in the finance department are huge profit centers and are negotiable. I also have to recommend the value of most all products sold in a finance department. It is in your best interest to get the best coverage possible at the best price possible. Always remember this: The dealer has to make a fair profit to stay in business. It just doesn't have to be all out of your pocket.
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The Rising Popularity of Seller Financed Real Estate
Every day we hear more about seller financed real estate. It is a very simple but powerful method of financing your home sale by actually becoming the "bank". In a buyer's market characterized by weak credit and low down payment expectations, owner financing real estate will really set you apart from others in the homes for sale marketplace.
One significant reason home sellers are embracing mortgage funding with seller financing is the fact there are so many properties for sale. Lender underwriting guidelines are being re-evaluated in the wake of the sub prime lender meltdown and the record number of foreclosures all across America. I think it's fair to say traditional lenders may be experiencing a public relations problem with consumer confidence.
Let's pause for a moment to reflect upon what it means to be the "bank" in these transactions. Visualize a traditional bank. Do you see very large affluent buildings that feature a lot of marble, glass, and brass? When I think of the banker, an impressive looking man typically comes to mind. He is well dressed and walks the walk and talks the talk of a person that has his "mind on his money and his money on his mind".
When you become the banker in a seller financed transaction, you should also walk the walk and talk the talk of an actual banker. Here are a few of the expectations you should have.
Your buyer should not show up empty handed. It is not a good idea to encourage a "No Down/Low Down payment" arrangement. Somewhere along the way the idea of buying a home with no money down became really popular.
Unfortunately the current housing market with its incredibly high foreclosures and bankruptcy filings is an indication that purchasing a home with no equity is not such a good idea if you are not loaded with cash. When seller financing real estate, you definitely want as much of a down payment as your buyer can provide. Ideally you want at least 5% down, more if possible.
Private mortgage insurance requires at least 20% in equity before insurance coverage can be dropped. Today seller financed homes can be structured with as little as a 5% down payment, or as much as 20% depending on your buyer's credit profile. You will notice I said "credit profile", not just the credit score.
Even though the credit score is a very significant indicator of the buyer's credit management history, there are other factors that contribute to the over-all credit profile. For the purpose of this article, when you seller finance a property, always have the buyer's credit checked. According to the Federal Housing Administration, FHA, the credit score is one of the best indicators of the potential for a loan default. Interestingly, one of the other major indicators is the amount of the down payment.
Your buyer's "ability to pay" is obviously a major consideration. If they don't have the cash flow to support the costs of home ownership, you simply cannot justify financing the deal for them. A very quick way to determine a buyer's ability to pay is the debt to income ratio. The " DTI" is simply the percentage of your monthly gross income (before taxes), which is used to pay monthly debts.
A generally accepted ratio is 33/38. The first number, 33, represents the "front ratio". It includes the percentage of monthly gross income that is used to pay your housing costs including principal, interest, taxes, insurance, and extraordinary housing expenses like association fees, etc.
The second number, 38, represents everything listed above plus consumer debt. Consumer debt includes car payments, credit card debt, and installment loans.
The last two qualities to consider are job stability and character. Job stability of course will help you decide which buyers are likely to have great prospects for long term, successful, continuous employment. Today's employment marketplace is much more challenging than ever. Home sellers must be even more intuitive and insightful than in the past.
Another very helpful characteristic is the evaluation of your buyer's "character".
When you look into the eyes of your prospective buyer, you are literally looking into the "windows of their soul"......the essence of who they are.
That "essence" gives you clues about what to expect from your buyer based on inherent Character traits. For example, is their basic "life force enery" positive or negative? Do they assume responsibility for what has happened in their lives or do they quickly place the blame somewhere else?
The issue of your buyer's character is complex enough for an article unto itself. We describe the issue of character as a "wild card", because it is so subjective.
Each of these buyer criteria on it's on is very helpful in determining different things about your buyer. Collectively they represent a comprehensive system of buyer evaluations that can help you easily determine how to effectively structure their loan package. Issues like the term, loan to value ratio, and interest rate, become very easy to comprehend and layout.
You may have noticed, everything related to the home seller and the home buyer is viewed from a very personal perspective. Think about it. You evaluate the personal financial commitment with the down payment. The buyer's ability to pay is one of the principal considerations of the process. The credit profile reveals not only the credit score, but explanations about what helped to create the score. Job stability and character are given consideration at a personal level.
Here's one more important observation. Many of the traditional banks loan programs include a pre-payment penalty. If your loan is a bad one, you can't even get out of it without paying dearly for the opportunity. By contrast, there is almost never a pre-payment penalty with seller financed loans. As a matter of fact, you are encouraged to pay them off any time it's convenient for you.
After looking at the facts, probably the most compelling reason for the increasing popularity of seller financed home loans is the fact the seller not only wants you to succeed, but he/she actually cares about whether you succeed or not. Seller financed real estate is definitely an idea whose time has come.