This Trade Advice Is One Of The Worst Tactics Dealers Use To Get Buyers Into A New Car

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It’s all-too-often that people end up in a situation where their car is worth a lot less than their loan balance. This is called being “underwater” and there’s no easy solution for it. Some dealers are offering what seems to be a quick way out by telling these buyers simply to stop making the payments, as noted by a new in-depth report in The Wall Street Journal. Unsurprisingly, this works great for dealers and is horrible for everyone else.

The trend is called “kicking the trade,” as investigated in the WSJ. How it works, essentially, is the buyer is so underwater the dealer can’t make the maths work for the next transaction, so the dealer tells the buyer to sign a contract for a new car, and soon after contact the lender on the old car for a voluntary repossession.

What is often not explained to the buyer is that when the bank takes the car, the bank will try to sell it to recover its own costs. If the car doesn’t sell for the remaining value of the loan, the borrower is on the hook for the balance.

A hypothetical would be good to help understand what’s going on here, so let’s consider a hypothetical buyer who comes into a dealer with a car worth $US10,000 ($14,977) but their loan balance is $US18,000 ($26,958). Often that is too much negative equity to roll over into the next loan. The “kicking the trade” dealer will tell the buyer to buy a new car and essentially have two car notes.

The buyer will then contact the bank for their old car and inform them they will no longer be making the payments and to come take the car. When the bank executes that voluntary repo, they will send the car to the auction. If the bank only gets $US10,000 ($14,977) for it, the bank will then come after the borrower for the remaining $US8,000 ($11,981) balance. Usually, this person doesn’t have the cash to cover the difference and this causes a massive drop in their creditworthiness. In summary, the only party who really wins here is the dealer.

With the rising prices on new vehicles and many buyers coming to the table with a bad combination of poor credit, no down payment, and an underwater trade, some less scrupulous dealers are using “kicking the trade” as a way to make a sale to someone who normally would be turned away. The dealers get all the benefits while the borrower and the lender get stuck.

The WSJ found at least one lawyer who hears of these cases “at least once per month,” though the National Auto Dealers Association denied that it was common. (Googling around for other uses of the term from before the WSJ published its report defined it a bit more simply as suggesting the seller make the deal without involving the trade and give the car away, such as to a family member or church.) The report notes that it’s hard to even grasp the scope of the issue, though it’s clear that the trends causing it are on the rise:

It is difficult to estimate how often this happens. Auto-sales veterans say the practice is an open secret in some showrooms. Broadly, vehicles are getting more expensive and Americans are struggling to afford them. Dealerships now make more money arranging financing than selling vehicles. If a car loan goes bad, it typically isn’t the dealership on the hook—it is the borrower or lender.

The whole report is worth a read, and it’s interesting to note that in almost every case study in the article the car dealers who were suggesting this pathway were all selling new Kias.

As I have covered before, there is no magic solution to an underwater car loan and often the worst mistake a buyer can make is to trade in their car too early instead of holding onto it. Often a buyer’s best defence against bad deals like these is an old-fashioned calculator and an honest look at the maths.

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