By: Sarah E. Sanuth, an insider in the automotive industry  with many years of experience in the car dealership and repair business

Used car dealerships are very different than many of your new car dealerships; therefore they make most of their money a different way. They seek their inventory from very different avenues.

Your traditional new car dealership will obtain their inventory from a manufacturer, such as General Motors or Ford, on a line of credit. When a used car dealer purchases inventory, they pay cash or finance through something called a “Floor Plan.”

A “Floor Plan” is where a lender gives the dealer a line of credit that can only be used at the auto auction and has a high interest rate and very strict terms. They have to sell their inventory fast in order to make profit or they risk losing the vehicles to repossession, along with many other items the dealership owns. More fortunate dealers have the ability to obtain a normal line of credit from a regular bank. These lines are mostly unrestrictive.

When a new car dealer obtains trades in the process of a sale, they sometimes try to sell the vehicle on their lot, but when they can’t or don’t want to, they bring the car to a dealer-only auto auction. Financial institutions also bring their repossessions to these auctions.

From there, used car dealers bid on these vehicles and the highest bidder wins.

During the month of November 2008, a 2006 Chevrolet Malibu LT with 59,000 miles sold for $6,500 at one of these auctions. According to KBB.com, the value of this vehicle and what you would expect to pay for it at a used car dealership is $10,300. The dealer might have to put a small amount of repairs into the vehicle totaling about $500, which still leaves the potential for up to $3,300 profit on this one vehicle.

Used car dealers are not under any franchise agreement, therefore they can use whatever brand parts they want to repair these vehicles, saving them a vast amount in the repair department.

Now let’s say you’re purchasing this vehicle and have a trade-in. Dealers however, do not give you full boat on that trade-in. Your trade-in is a 2001 Chevrolet Cavalier LS with 100,000 miles and a book value of $1,775 trade-in and $4,680 retail. Again the dealer will not give you $1,775, but rather something closer to $1,000.

This decreases the price of the new vehicle to $9,300, making the profit for the new car $2,300 and you just gave them another $4,680. Now they might not sell the vehicle for $4,680 but rather $3,500-$4,000 just to move it, making the total profit on the sale about $5,800 minus any repairs that may need to be done to the trade-in. If they don’t sell the trade-in on their lot and rather bring it to the auction, which also in the month of November 2008, a 2001 Chevrolet Cavalier with about 100,000 miles sold for $2,100, making the profit now a total of $4,400. If they bring the vehicle to the auction, they don’t need to make any repairs. But if they do, they will see a bigger return on their money.

The older the vehicle is the smaller the profit margin. This is because older vehicles need more to repair them in order to make them salable.

Now if you are financing the vehicle, the dealership might have a relationship with the financial institution where the dealer receives a “kickback.” This is where each month, quarter or year, the dealer receives a small percentage of the interest that you have paid to the bank for bringing the bank business. This is an incentive and essentially profit for the dealer for not doing anything. If you get the financing through the dealership, it is more likely that they will receive a “kick-back.”

Used car dealers also obtain the inventory from two other sources, impact auctions and the public. An impact auction is almost the same as a regular dealer-only auction, except these vehicles have been in major accidents. Most of the components of these vehicles still work; they just have major body damage. The used car dealer will buy the parts at a huge discount and repair it themselves and sell it for full retail. There is a lot more labor that goes into it this way, but the initial cost of the vehicles is much less than the traditional auction.

Many people have vehicles that they don’t want to repair, such as a perfectly good vehicle that has a major issue, like a blown transmission or motor. They will then replace the motor or transmission and sell it for retail. Again, this is more labor than cost.

With these two means, they will spend about $2,000 on the vehicle, $2,000 in repairs (if they own the repair facility as well) and in the end have an $8,000-$10,000 vehicle. However, not all used car dealers go this route. Larger used car dealerships will just use the traditional auto auction.

Some used car dealers also make money in another way that is unique to the used car industry. Very few used car dealerships go this route, because time and headache involved in the process. This is called “Buy Here Pay Here.” This is when a dealer will finance the consumer himself, usually someone who has bad credit who couldn’t get a loan elsewhere. These vehicles are usually a little older, but still have plenty of life left in them. A dealer will purchase a car, such as the Chevrolet Cavalier mentioned above, for $1,000 and with some minor repairs, sell it for retail with interest, or above retail with no interest. The consumer makes a deposit of $1,000 and makes payments until it is paid off. However, if the vehicle is not paid off, then it will be repossessed and sold again to another “Buy Here Pay Here” customer, for what is owed with the addition of storage, repair and repossession fees.

Used car dealers make their money very differently, but there is also a higher risk involved than new car dealers. All investment is out of pocket. But keep in mind when you decide to negotiate with a used car dealer that they also have bills to pay such as rent or mortgage, electricity, heat and salaries. These costs come out of the profit margin.

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