Advantages and Disadvantages of Using a Captive Finance Company

January 27, 2012

There are many benefits to choosing a captive finance company, as opposed to other financing companies. A captive finance company is a subsidiary whose primary business is to finance the parent company's products. By offering financing to the people who need it, these companies eliminate the need for outside institutions.

An Overview
The captive finance company works on the strength of their parent company. The overall idea of this arrangement is for a parent company to keep many loans in house. The parent company benefits from the transaction by collecting revenues from the interest on loans, as well as from the profit of the sale.

Advantages of Captives
The consumer could possibly benefit as well. Since the captive finance company is usually owned by the parent company, they may be able to make "loans" that don't actually require money being paid up front. They can simply wait for the consumer to pay them in monthly payments.

A credit card company or credit union is required to borrow the money that they lend at the going rate. Therefore, the captive finance company may be able to offer a lower rate, if they want to.


Bad Credit Easier Financing
They may also be able to get financing for customers who are unable to get a loan from another financial institution, because they have problem situations or lower credit scores. These loans may also be less volatile and easier to obtain.

The captive companies are able to provide these loans because of the decreased risk that they have in lending money on their own products.

Better Terms
Captive financing companies generally have better overall financial outlook than their parent companies, because they are dealing in short term loans instead of the long-term capital expenses incurred by their parent companies. This makes them better able to deal with consumer financing options than the parent company. This is why companies create separate captive finance companies rather than carry financing for consumers themselves.

In times of tight finances, the parent company may, in fact, sell off its captive financing arm, in order to raise capital, since these financing companies are generally profitable.

This allows them to make more profitable loans to consumers in less than perfect credit situations, and also allows them to offer attractive terms, such as 0 or 2 percent loans, to consumers with excellent credit.

Which to Choose
While a captive finance company makes a lot of sense for a parent company, it doesn't always make sense for the consumer. Check the rates and terms you'll get from a bank, credit union or mortgage company and compare rates before you decide.

Look carefully at offers from captive financing companies and be sure that you understand the terms completely. For example, are low interest rates are for the life of the loan, or only temporary?

Dealers Have Their Own Financing
Almost every auto dealer has a captive finance company offering a variety of financing arrangements based on a number of criteria. It's extremely important in today's questionable economic climate to try to get the best deal available. Therefore, when comparison shopping different auto brands, also comparison shop the financing made available through their dealers. The recent global financial recession has led to greater constraints placed on lending, which has increased the cost for borrowing money. Since you will be paying more to borrow money for your new purchase, a smart consumer will take a little time to find the best deal available.

Check out the Website
Each of the Big Three captive finance companies offer complete services online. These websites allow you the opportunity to investigate what each company has to offer when it comes to the amounts that can be financed, what interest rates are charged, what additional fees and charges are involved to complete the financial transaction, and how the amount of your down payment will affect the deal you are looking to make.

Learn a Little
Additionally, these websites offer general credit information helping you gain quality knowledge that can help in the decision making process. Many resource tools are available on captive finance company websites that help consumers determine the amount they can comfortably borrow, helping potential buyers select a monthly payback amount.

Disadvantages of Captive Financing

One of the main disadvantages to captive financing is that you could potentially be approved for a loan that you can't afford. Captive financers sometimes offer loans to people with bad credit. An uneducated consumer could potentially engage in a loan that far exceeds what the car is worth. If you are not careful, the captives will inflate the loan, in the interest of making bigger profits for the parent company. People with bad credit usually get high rates anyway, but a captive could inflate these to more than twice as much as other lenders may do. They also typically give shorter loan periods, making monthly payments extremely high. Captives do this because they are owned by the car company. The more a borrower spends on a loan, the more money the car company ultimately makes.

Read the Fine Print
Not only do captive companies charge high rates, but sometimes they use dishonest methods in their loan terms. There are several things that captives have been accused of doing. Overcharging and flat out using trickery in the loan terms are ways of making money for the car company, and this happens especially with people with lower or no credit.

Unbeknownst to the borrower, to get this special price, they have to have a ridiculously high APR, or the car salesman is adding things like extended warranties, and car mats, that the borrower doesn't need and might not even want, jacking the total price of the car up much higher than borrower expected.

High Interest
Another drawback that this system creates is that it gives the salesman an incentive to create more cost for the car. The salesman knows that the bigger the loan is, the more commission they make off the deal. Often, the borrower has no idea this is going on. They may see a certain price for a car, and completely disregard anything but affording the monthly payments.

This makes the loan much bigger and ultimately creates more interest payments, which is where the company really makes its money. So, anyone dealing with a captive financer must be alert and attentive when using their services.

Captive Finance Companies vs. Credit Unions

While captive finance companies are wholly owned subsidiaries of the major automobile manufacturers, credit unions are privately owned, membership-based institutions that perform many of the same functions as a regular commercial bank. Membership is available only to people that meet specific criteria. Examples of such criteria include: employment at a certain company or governmental agency, membership in a particular group or organization, being a member of a certain ethnic group or residing in a specific locality.

Both captive finance companies and credit unions can be good sources for new or used car loans. In fact, it is difficult to say that one is better than the. Both have their advantages and disadvantages. Therefore, we will discuss some of each.

Convenience
If you want the convenience of performing all aspects of a new or used vehicle purchase in a single location, all at once, then captive finance companies probably offer more advantages in this department. With a captive finance company, the dealership is quickly able to submit your application and receive an approval--usually within a few minutes. Most dealers have a direct line to their respective captive finance companies, and can quickly reach them to communicate any needs or issues.

On the other hand, if you wish to obtain a loan through a credit union, you will probably have to personally visit the credit union and apply for the loan. Some credit unions do allow you to apply by phone, however you may still need to visit the credit union to complete the needed loan documentation.

Interest Rates
In general, credit unions offer the most competitive interest rates available for a new and used car loan purchase. Rates of credit unions are almost always much lower than commercial banks, and usually lower than those of captive finance companies. However, this is not always the case.

You may have seen a television commercial by one of the major automobile manufacturers offering incredibly low interest rates on their new vehicles. Captive finance companies are the ones who actually offer these interest rates to potential customers. If you're able to purchase a vehicle at a time when these very low interest rates are being offered, then you can indeed save a lot of money. But, these rates are not always available, and at times when they're not, credit union rates are usually much lower.

Do Your Homework Online
Before you start your negotiations with a captive finance company, it is important to do a little homework. Obtain your credit score from one of the 3 major reporting agencies--Experian, Equifax and TransUnion. It's important to check your report, so you have the opportunity to correct any inaccuracies, as well as clear up any minor problems that may have an adverse effect on your rating. Also, it's good to know where you stand at the onset of the process, so there are no surprises as you move along toward an eventual purchase.

Check Out the Varying Rates
Unless you have your mind made up to purchase a particular brand of automobile, you may find that learning how to compare captive finance companies' rates and terms might just help in your decision making process. Plus, through use of the Internet, comparison shopping is much more convenient than it used to be in the day when you had to take the time to either telephone or meet finance officials in person. Now, from the comfort of a seat in front of your computer, you can surf the net looking not only for a model to buy, but for the financing to purchase it.

Get the Best Deal

Many brands' captive finance companies do not actually have their own websites, so looking for "Honda captive finance" with a search engine isn't going to give you anything useful. Visit the main website of whatever brand you're looking for--for instance, honda.com, ford.com, etc--and look for a link to financial services.

In order to make a deal with the captive finance company, you must go through the dealership. Therefore, be prepared to do battle. Dealerships earn money from the interest on your loan. The higher the interest rate, the more money the dealership makes. However, there are ways to get around this. The easiest way is to already have your financing arranged when you go into the dealership.

Before you go to a car dealership, have your financing pre-arranged. Visit your local bank, credit union or favorite online lending site, and apply for the loan. Once you're approved, make sure that the interest rate is very competitive. Take the approval and head straight to the car dealership. By arriving with pre-arranged financing or a check in hand, you will literally force the car dealership to compete for your auto loan business. While the dealer may not be able to pad the interest rate that the captive finance company offers, he will still try to get your loan business for their car company.

Force Their Hand
Once the dealership is aware you have pre-arranged financing, they will probably ask you to sit down and give them a chance to help you. Remember the dealership has direct contact with the loan underwriters at the captive finance company. They can inform the captive finance company that you already have pre-arranged financing, and if they want to earn your auto loan business, then they need to make a very good offer. You'll be surprised at how effective this can be.

Just because you have pre-arranged financing does not mean you have to use it. You are never obligated to accept a loan until all of the documents have been signed. Therefore, if the dealership offers you a better deal--take it. Afterward, simply send the check back to the lender, and tell them thanks--but no thanks.

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