In Sept 2017 ASIC formally banned flex commissions in the car finance market with legislation commencing on 1 November 2018.
Flex commissions are paid by lenders to car finance brokers (typically car dealers), allowing a dealer to set the interest rate on the car loan. Lenders set a base rate, but it is the dealer that can decide what the customer is charged above that base. The difference between the base rate and the interest rate is the margin from which the dealer takes a percentage. The higher the interest rate, the larger the commission earned by the dealer.
ASIC has now banned flex commissions because it has found that they lead to consumers paying excessive interest rates on their car loans. A key concern with these commissions is that the interest rate charged to the consumer is not related to their credit rating or risk of default, but to their financial sophistication, financial literacy and capacity to negotiate.
Currently, the vast majority of cars sold in Australia each year are arranged under finance. According to the Royal Commission about 39% of these sales are financed through a dealership with 61% from other sources. The alternative to dealership finance is sorting the loan yourself through a finance broker or lender. This has several advantages including more choice, negotiating power, often better interest rates and increased flexibility on payments.
However, dealership finance has an advantage due to the convenience for purchasers, or they may feel obliged to choose the dealership’s finance at the point of sale. However, this means placing a great deal of trust in the dealer to sort the best loan, and a purchaser might not be aware that often the monthly payment amount will be marked up to make additional personal revenue for the dealer.
In the new legislation, the lender, not the dealer, has the responsibility for determining the interest rate that applies to the loan. The car dealer cannot apply a different rate that earns them more commission.
Will the ban level the playing field?
But does the ban on flex commissions go far enough to level the playing field between dealership financiers and licensed finance brokers?
One of the broking industry’s biggest ‘beefs’ with dealership finance is that car yards can arrange finance for consumers under a ‘point of sale’ finance exemption under the NCCP Act. This exemption was originally proposed to last for a 12 month interim period, but it has actually existed for 8 years!
The exemption outlines that dealers are exempt from the responsible lending guidelines contained under the Act (to which finance brokers are bound). Car dealerships do not need to hold an Australian credit licence but can still provide finance for customers as long as the proceeds are used to pay for goods and services provided by the dealership.
While the flex commission ban will prevent consumer gouging by unscrupulous car financiers there is still one step to go, the introduction of National Consumer Credit Protection (NCCP) Act compliance requirements on these providers to conduct thorough customer assessment, just as licensed finance brokers do.
Until this is done dealerships are still at an advantage to brokers and unaware customers will continue to pay potentially higher interest rates for their motor vehicle finance.