I would be interested to know how other lenders are accounting for Dealer Discounts. Earned monthly as a balance sheet liability or funding loss reserves for specific static pools? Additionally, any discussion regarding the pros and cons of either method. If a company chooses to fund loss reserves, would’nt GAP allow the discounts to be earned in the same fashion. If so, it seems the preference would be the latter so as to avoid having discounts sitting on the balance sheet.
Are you talking about dealer premiums (dealer writes the deal at say 8% and then sells it to the lender at 7% in which case the lender would have to reduce its yield from the customer rate of 8% to 7% by amortizing the premium paid)?
No, this is the fee the lender charges the dealer to purchase the contract. In this case, it increases the yield. For instance, the amount financed is $10,000 with a 10% discount, the lender purchases the contract for $9,000.
Ok, the treatment is the same whether its a premium or a discount. What you want to do is recognize that discount on a level yield basis. Lets use your example above. The dealer writes the contract at a yield of 7% and you purchase at a $1,000 discount.
Option 1 – Throw that $1,000 into an IRR (internal rate of return) calculation using the contractual term and get a yield. Amortize that $1,000 discount such that the combination of the 7% contractual rate plus the discount amortization gives you that IRR calculated yield. The problem with this option is that auto loans do not go contractual term so you are understating your yield.
Option 2 – Do the same as above only use the expected term (as a check the weighted average life of a 48 month contract should be approximately 20 months give or take). This will give you a good level yield but is a pain in the #@$^!% to maintain a discount amortization schedule for every one of your deals.
Option 3 (Suggested) – Amortize the discount using the rule of 78s. This will give you an approximate level yield and you don’t have to maintain separate amortization schedules for each deal. The trick is calculating the term (# months) to use for the rule of 78s calc such that the weighted average life of your discount approximates the “Expected” weighted average life of your loans.
Clear as mud? Thats what I would do anyways.
The FTC and CFPB are my primary concerns right now. The CFPB is not in favor of our industry (BHPH) and will shine a brighter light on us as they grow and hunger for ways to justify their existence. UDAAP’s, disparative impact, first contact all topics I haven’t heard much about but will be important to us if the government doesn’t slow the regulatory pump soon.