Drivers will save £165million a year under plans to ban greedy car salesmen from secretly overcharging customers so they can pocket more commission.
As many as 500,000 car buyers have been ripped off by the scam, which sees ruthless brokers and salesmen increase interest rates to ratchet up the cost of a finance deal.
As this raises the overall price of the deal, the dealers are paid more in commission. But customers are overcharged by an astonishing total of around £165million year, and many find themselves locked in a spiral of debt.
The racket was uncovered following a two-year investigation by the Financial Conduct Authority (FCA), the Government’s finance watchdog.
Drivers will save £165million a year under plans to ban greedy car salesmen from secretly overcharging customers so they can pocket more commission
It found that car buyers could be paying £1,100 extra in interest on a typical £10,000 four-year loan due to inflated salesmen’s commissions.
The FCA said the loophole ‘creates an incentive for brokers to act against customers’ interests’.
Christopher Woolard, FCA executive director of strategy and competition, added: ‘We have seen evidence that customers are losing out due to the way in which some lenders are rewarding those who sell motor finance.
‘By banning this type of commission, we believe we will see increased competition in the market which will ultimately save customers money.’
The FCA probe began in April 2017 after a rapid surge in household debt, led by a boom in the popularity of car finance deals – from 1.2 million in 2008 to 2.3 million in 2017.
It found that car buyers could be paying £1,100 extra in interest on a typical £10,000 four-year loan due to inflated salesmen’s commissions
Families borrowed £37billion on car finance to buy new and used cars last year .
Nine in ten new cars are bought through car finance deals, the majority through Personal Contract Purchase (PCP) deals where buyers do not own a car until they make a sizeable final payment at the end of the contract period – usually two to four years.
However, despite their popularity, experts believe the schemes are a more expensive way of buying a car than taking out a personal loan or purchasing a vehicle outright.
As well as banning inflated commission, the FCA is also looking to overhaul the way customers are told about finance deals to make information clearer and more relevant.
During their investigation, the watchdog found that in the vast majority of cases customers are being left in the dark about the arrangements.
Undercover shoppers from the FCA found just one out of 37 franchised car dealers and four in 60 independents disclosed that any commission was paid. This compares with two in 14 car supermarkets and four in 11 online brokers.
The FCA warned the sector in March to clean up its act amid concerns over the commission charged on car finance plans for new cars.
The Financial Leasing Association, which represents the car finance industry, admitted commissions have been widely linked to interest charges for around 30 years, raising fears that millions of car buyers may have been overcharged.
Separately, the Bank of England has also raised the alarm over the rise in popularity of personal contract purchase (PCP) plans, cautioning that it could leave consumers vulnerable.
Sue Robinson, director of the National Franchised Dealers Association, said: ‘Clear rules are positive for the industry but we would urge that they are proportionate so there is a satisfactory outcome for both consumers and retailers.’
Sarah Nield, financial services risk and regulation director at PwC, said the move to ban commission linked to interest rates on loans could push up costs elsewhere for buyers.
She said: ‘Given the largest commissions received by brokers tend to come via the models set to be banned, it will be interesting to see how lenders, brokers and dealerships react.
‘Although we expect firms to comply with the spirit of the changes, it could result in unintended consequences including increased flat fee commission payments, car prices and bundled product costs.’
Scott Cargill, chief executive of Admiral Financial Services, said: ‘Car buyers need to know that they don’t have to pay these big commissions and do have the option of taking out car finance directly from other lenders – potentially saving thousands of pounds in interest. The car finance industry has been slow to catch up with other sectors and this has been to the detriment of the car-buying public.’
The FCA will consult on the news plans until January 15, with final rules set to be published later next year.