So this is happening.
I mean, I’m not surprised in the least. With how long these zero-percent-for-six-years financing deals have been hanging around, this is pretty much the next logical step. But now it’s actually a thing:
Just so we’re clear on why this is a god-awful thing, and what kind of damage this can do to someone’s finances, I want to go back a little bit and explain what this means. What it honestly means. Let’s set up a scenario where this kind of financing would be appealing to a customer and walk through why it’s a terrible thing.
Cars Depreciate. Duh.
Cars depreciate. That is, they go down in what they’re worth. That is, you pay a big number of dollars for something that is no longer worth that big number of dollars. We know this. We even know, on average, by how much.
When you buy a new car, it’s no longer a new car. As soon as it’s “titled”, it’s now a pre-owned vehicle. That’s dealer terminology. You and I use the term “used” because that’s exactly what it is. But pre-owned is essentially the politically correct sales term for a titled vehicle.
So a new car with a sales price of $50,000 purchased and titled by a customer loses a chunk of that value on the very first day. By the end of the year, on average, that formerly-new car is now only worth $40,000. It will lose about twenty percent of its purchased value in the very first year.
This might be a high number at first glance to discuss, but keep in mind the target audience these kinds of longer-term loans are targeting. A car loan with a seven- or eight-year term isn’t as attractive to a customer shopping for a car costing “only” fifteen or twenty grand.
With steadily increasing new car prices, car manufacturers are searching for ways to keep consumers in the “sweet spot” of monthly financing. The average monthly car payment is around $560 right now, but the average new car purchase price has skyrocketed. That number will keep ticking up every month unless one of two things happen:
- The customer gets smarter about buying cars, or
- Longer loan terms get rolled out
I have my guesses on which is more likely.
Even worse, fifty thousand these days is not necessarily luxury-car money. I mean, in recent weeks I’ve seen a new mid-sized Toyota truck with a sticker for $51,000. This amount of money doesn’t even buy all that much vehicle anymore.
Oh, but wait. We’re not just financing a new car here. It’s never that simple. Dealer’s rarely let you walk out of the showroom floor having just paid for the car. Oh, no, we got more than that in this deal. We got…
Let’s talk about what this supposed $50,000 new car will really cost a customer.
For new cars, there’s not a whole lot of negotiation that’s going to happen on the showroom floor. The price is the price, and due to the prevalence of internet pricing information, dealers can’t haggle very much over what new cars are going to run customers. They can try to get away with sticking addendum stickers next to the MSRP tag, but that’s an easy enough problem. Just laugh and say no.
But the dealership will still try and sting our customer. Heck, I literally just talked about this.
First up is the dealership documentation fee. Those range between nothing and a grand depending on how stupid your local state legislators are, so let’s just ballpark this at a $500 fee.
Most new cars come with a delivery or destination fee, so slap another grand on our price tag. Most dealers will try to get away with something else under some kind of name. Common ones include prep fees, advertising fees, e-filing fees… dealers are experts at creating new things to charge customers. Let’s just assume another $300 bucks in miscellaneous fees and move along here.
Once you’re back in the finance office, the F&I manager is going to have his turn to start slapping down extra charges. Expect to see loan origination fees and gap insurance show up. Any F&I officer worth his weight at the dealership is going to push an extended warranty on a brand-new car like it’s going out of style.
Ballpark some numbers for these miscellaneous expenses, and we get a grand total of… holy geez, man…
So let’s update what we discussed in the first section. This highlights the biggest problem with buying new cars. This hypothetical customer is now looking at sixty grand dropped on a new vehicle that within one year will only be worth $40,000 at most. In 365 days, this customer will have destroyed twenty thousand dollars.
And if you’re interested, running this price through a payment calculator with an average 3.11% interest rate yields the following results:
I like playing with numbers. I’m a programmer and I find dorking around with spreadsheet formulas fun. But this one honestly made me double-check my work and punch the results into google to be sure.
And, of course, all of this gets worse.
Nissan will be incentivizing dealers to push these much longer-term loans.
I mean, I can understand why people might gravitate towards long-term lending. If your only focus is on the monthly payment and not the overall purchase price when spending your money, then extending your loan terms is… uh… a solution.
I’ll never endorse it. I think it’s a terrible idea. But if you don’t care about how much money you spend in total and only about how much you see leave your wallet every month, then yes, I can understand why these offers might be attractive to you.
But now Nissan will be offering up to $450 to dealerships that convince customers to sign onto one of these long-term loans in addition to paying the dealership one percent of the total amount financed (that’s what the origination fee above is, by the way).
So in our example above, the hypothetical dealership will score $597 from the loan origination and potentially the extra $450 from convincing our customer to borrow for seven or eight years.
$1,047 in the dealer’s pockets, on top of the fees applied to the contract. All in all, our hypothetical dealer stands to walk away from this car deal having made $1,849 before even considering the profits added from the warranty or gap insurance add-ons. More if they double-dipped in charging you the origination fee and receiving that kickback from Nissan.
And why wouldn’t a dealership want to pursue this? Why wouldn’t a salesperson start harping on about how “affordable” these seven- or eight-year loans can be? Dealerships now have a vested interest and incentive in doing so (not that they didn’t before, but Nissan is only dangling the baited hook even closer now).
All of this just leads directly into the last pitfall in this sad little escapade…
Rolling Over Junk Debt
Most customers walking into this kind of situation walk out of the dealership immediately underwater. By that, I mean they are on the hook for payments on an expense item that is worth less in resale than what is owed. Our hypothetical customer here is driving home in a new Nissan vehicle having paid sixty thousand dollars, but could only turn that vehicle around and resell it — day one! — for maybe $45,000.
Maybe. Certainly not to another dealer, but a private party, sure. Maybe $45,000.
This customer will be underwater in this deal for years. This vehicle will depreciate twenty percent year one, and an additional fifteen percent each additional year. I punched these numbers into a mortgage amortization schedule just so I can confirm this. It will take four years of regular payments on this vehicle before the car should be worth more than is owed.
After four years, the customer will still owe $26,466. The nationwide average for miles driven per year is 13,475 miles. That’s about 54 thousand miles, beyond most manufacturer bumper-to-bumper warranties and well into the extended warranty purchased above.
Now don’t get me wrong. That’s a vehicle that should still have a lot of life left, provided that it’s been taken care of. But should a customer buy that same four-year-old vehicle with that many miles on it instead, he or she should expect to pay about $24,500 instead of $50,000.
I hope you can see the difference there. But let’s continue on this sad journey.
Drivers who buy new cars tend to repurchase every six years. After six years, our customer might still owe $8,577 on this vehicle if he or she has made no extra payments throughout the loan. This number only gets worse if the customer decides to trade in earlier.
But again, six years is the average. Which means some people trade in sooner. Some, much sooner. I’m sure you know where this cycle is going.
Let’s imagine the customer trades in after three years on another new car. The customer will still owe $35,700 for a car worth only $28,900. The remaining $6,800 debt has to go somewhere and dealers will happily toss it on the heap with another new car loan. And the cycle keeps spiraling into oblivion.
Good for the Dealerships, Dangerous for Consumers
I realize I picked a relatively high purchase price for our hypothetical car for easy numbers, but let’s not kid ourselves here.
Fifty thousand is well within market value for a brand-new Nissan Titan. A glance at Nissan’s website shows the mid-sized Nissan Frontier Crew Cab PRO-4X starting at almost $38,000. Hitting that fifty thousand mark is not difficult.
Honestly, though, it’s hard to stay mad at Nissan for this. Sure, I can take digs at dealerships for promoting these kinds of anti-consumer incentives, and I do. But in the long run, I’m not sure it’s entirely fair.
Ultimately, these companies are just giving customers… or rather, consumers… what they want. Too many consumers shop with monthly payments as their primary focus. These kinds of incentives and extended, subprime lending offers are only feeding that hunger.
We’ve been trained to plan on credit and think about payments instead of price. To think per month and not per purchase. The immediate and not the long-term.
And American consumers have learned that lesson all too well.