Thanks to film and TV, we’re all familiar with the stereotype of the sleazy, only-out-for-a-buck car salesman. They’re often depicted as harassing customers to buy overpriced lemons, only for those cars to break down minutes after leaving the dealership lot. But that’s far from the truth.
To break the spell, here are five ways dealerships make car sales without taking advantage of customers. So the next time you go car shopping, you’ll feel more comfortable.
Dealer cash and dealer holdback
The nitty-gritty of car pricing can be confusing. When it comes to new cars, dealerships and car manufacturers work together to move cars off the lot and keep the dealership profitable. They do this in two ways: dealer cash and dealer holdbacks.
Dealer cash is a bonus paid to dealerships by the manufacturers under certain conditions. For instance, if the dealer buys or sells a particular model, the car company adds a cash incentive that can increase with volume. Dealerships can keep this money or pass it on as a discount to customers.
Dealer holdbacks are also payments the manufacturer makes to the dealership. However, this works as a percentage of the invoice price, typically 2% to 3%. As with dealer cash, dealers won’t get the money until after the sale.
Trade-ins and used cars
Another avenue for revenue: used cars from trade-ins. Used cars bring the dealership more profit than new ones. Plus, it’s easy for them to turn down offers that don’t work in their favor. And they can handle the repairs and refurbishment in-house, letting them keep more of the profit for themselves versus using a third-party repair center.
Even if the car is a clunker, they can use the parts in their service departments.
Another slice of the profit pie for dealerships comes from financing. Most people can’t afford to pay for a car in full upfront, so they take out an auto loan and pay interest to the lender. According to Edmunds, consumers finance some 90% of new cars and 73% of used cars.
Dealerships also get paid through something called a “finance reserve.” This is a few percentage points (1% to 3%) added on top of the consumer’s loan interest rate that’s given to the dealership. For example, if the dealer can get you a 3% interest rate through its finance department, they can quote you at 5%. That difference of 2% will go to the dealership when you make your payments.
Car dealership service departments
When car sales are slow, service departments can be a lifeline for dealerships. Cars need regular maintenance, and dealers are in a great position to provide that service. That’s why they offer perks like free oil changes or tune-ups. So when it’s time for the more expensive repairs, they’ve already built a relationship with you. Service departments are the big moneymakers for dealerships.
Dealerships pay salespeople a percentage based on the car’s price. This is called a commission. The structure varies from dealership to dealership, but it’s typically around 20% of the sale price. That means it can be a pretty paycheck sometimes.
Unfortunately, this is where those negative stereotypes come from. Though it’s part of salespeople’s tactics not to take “no” for an answer, they’re just trying to make a living and provide for themselves and their families. However, to help weed out some unscrupulous salespeople, some dealerships offer them a bonus for customer satisfaction.
If you factor in things like GAP insurance and warranties, dealerships can make a lot of money without nickel-and-diming their customers. Now that you understand these five ways they make their cash, you can choose a reputable place to do business the next time you go car buying.