Payment Packing in Los Angeles

Sitting alongside fellow Los Angeles County deputy district attorneys, Dana Aratani and Michael Stewart, to discuss recently settled cases against three longtime dealerships in the Los Angeles County area — including the Norwalk, Calif.-based McKenna BMW — Jeff McGrath admits his office has only scratched the surface of what’s going on in a state the National Automobile Dealers Association (NADA) said had 1,659 new-car dealerships in 2005.

Despite most of these cases occurring between 1999 and 2002, the old-school practice of payment packing — where monthly payments are loaded with F&I products without informing customers — is still something McGrath and the two other deputy district attorneys hope to erase in a county where the 25 largest dealerships sold nearly 150,000 new and used cars, generating $5.1 billion in 2005 revenue. The California Department of Finance puts the county’s population at an estimated 10.2 million people.

“We’ve hit the two largest dealer groups in the nation,” says McGrath, whose office has taken action against 20 different car dealerships since the 1980s. “We’ve been successful at getting close to 19 people convicted of theft [since 2000], and have gotten back millions of dollars in restitution to the victims of these dealers.”

Within a 19-month period ending Nov. 30, 2006, the California Department of Motor Vehicles (DMV) logged 11,810 complaints against car dealerships. Armando Botello, spokesman for the DMV, says the practice of “payment packing” has been on the decline in the state since 2000, but warned the DMV continues to monitor the situation.

“It feels like we haven’t done enough,” says McGrath, whose office operates separate from the DMV, but has collaborated with the department on several cases filed against dealerships. “This goes beyond the mega dealerships. We got other smaller dealerships as well.”

From the conference room, McGrath points to his office where cases against at least two other dealerships await him, including an investigation against Power Toyota of Cerritos — the second AutoNation dealership McGrath’s office has investigated in a five-year span. There are also remnants of his office’s case against McKenna BMW involving criminal charges levied against one of the dealership’s former employees.

“I think what the dealers need to realize is that what they’re doing is still theft if [a false misrepresentation is made],” McGrath says. “The key part is to train people at the dealership. Sure it’s about money, but it’s when they misrepresent the circumstances of the deal that’s very disheartening.”

A growing trend, Aratani points out, is where consumers looking for a low monthly payment are switched to leases — only to find out later that the amount of the deal is much higher than the manufacturer’s suggested retail price (MSRP). Stewart says another growing concern is identity theft, where customers go to a dealership to lease a vehicle under someone else’s identity.

“As far as financing, if you come up with a 700 credit score, it’s automatic — you go right through,” says Stewart. “They’re not going to check your references until the payments stop being made. We’re seeing a lot of that right now.”

The Key-Chain Caper

That’s what put Stewart on the trail of McKenna Motor Co., a 50-year-old, three-dealership family operation. Settling with the District Attorney’s Office last November, it was McKenna’s BMW dealership that was charged with allegedly passing leases and purchase agreements with hundreds of dollars of extras without telling customers.

According to the suit filed January 2006 in Los Angeles Superior Court, McKenna Motor Co. allegedly inflated a vehicle’s capitalized cost by adding in the price of a pen, a key chain, a “Smart Choice” warranty or a combination of items.

Key chains and pens ranged in cost from $150 to $2,000, according to the suit. It said McKenna BMW personnel also allegedly misrepresented the “Smart Choice” warranty as a mechanical breakdown warranty, adding, in some cases, $1,500 to the capitalized cost.

The case was initiated by the Los Angeles County Sheriff’s Regional Auto Theft Prevention Task Force (TRAP), which began investigating McKenna after concerns were raised by KeyBank, a lending institution based in Cleveland. The probe involved the use of stolen identities to acquire lease deals that went unpaid. With the DMV taking the lead role, Stewart helped acquire the search warrant for the December 2001 raid. It was then that the DMV insisted that McGrath’s office review the dealership’s records for any follow-up investigations.

Several employees were interviewed during the raid, including Stuart Green, one of six named in a criminal case filed by the District Attorney’s Office in October 2004.

“Detectives were there interviewing him (Green) and he was boasting later to one of his employees that — while the automotive detectives were there — he was jockeying some deal with false information right in front of them,” Stewart recalls.

Green pleaded no contest to multiple counts, including conspiring to violate the Business and Professions Code for making untrue and misleading statements. Under terms of the criminal settlement, Green will have his felony counts reduced to misdemeanors upon completion of 200 hours of community service and payment of a $93,000 fine by this September.

“At one point, Stuart [Green] was bragging that he single-handedly pushed KeyBank out of the auto leasing business in the state of California,” says Stewart. “Pretty much everyone at the dealership had to have an idea that this was going on.”

In total, there were two sales managers, three finance managers and one director of finance named in the criminal complaint, including one finance manager whose alleged fraudulent transactions were referred to as “Jicky Jack” deals. There was also the finance director who allegedly spoke openly with other managers about the need to list a product as being sold on deals that had packed payments.

“We actually had a list of close to 13 people we were thinking about charging, and we weeded it down to six,” says McGrath. “We could have done more.”

Aside from Green, four other defendants pleaded no contest to violating the Business and Professions Code, with their felony convictions expected to be reduced to misdemeanors as part of the settlement agreement. One case remains open. McGrath says he could have done more, but the courts did not allow his office to pursue conspiracy to defraud — which would have carried a heftier sentence — because of a three-year statute of limitations.

In one case involving Green, according to the felony complaint, a customer was allegedly charged $1,110 for a key chain and $348.61 for a pen that cost the dealership approximately $15. That customer’s signature also allegedly appeared on a motor vehicle lease contract he never signed.

“I think it was pretty well known within that particular dealership and probably outside the dealership,” says McGrath. “Green offered to plead guilty at an early stage. He knew he was pretty much had.”

Stewart even recalls a story he heard from witnesses where Green received a gag gift recognizing some of his alleged practices between 1999 and 2000. It supposedly included an X-Acto knife, scissors, a ruler, liquid White-Out, glue and tape. He says one employee even pinned up an altered phone book ad at the dealership. It was a solicitation for copy services and had Green’s name on it. It read, “I’m Stuart Green, I can do it all.”

McKenna Motor Co. settled the case, but did so without admitting fault. Aaron Jacoby, an attorney for the company, said the six employees involved in the alleged wrongdoings were fired in 2001, and added that the company has since implemented several new processes to protect the dealership from future problems.

“In 1999 and 2000, which is when these deals at issue occurred, I don’t think dealers had as many compliance tools as have been developed every year since,” Jacoby said. “And I don’t think McKenna operated any differently than other dealers. Back then especially, I think McKenna and other dealerships were exposed to some rogue employees.”

Today, says Jacoby, McKenna requires compliance training for all F&I

employees. It also employs Auto Advisory services to perform regular audits of F&I and DMV practices, and uses Compli’s compliance tools to monitor all elements within the dealership. The company also has a compliance officer and an in-house auditing staff.

“Seems these days, good dealerships are smart to do this,” he says. “If you don’t, you’re more exposed to employees acting unlawfully.”

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California’s Alphabet Soup

The automotive financing industry has come a long way in a short amount of time, with new technologies and processes being touted as means for dealers to remain compliant. But industry experts warn that more regulations are on the way, pointing to California where the Car Buyer’s Bill of Rights went into play last July.

“New car dealers are regulated by an alphabet soup of federal and state agencies, including the BAR, DMV, EPA (Environmental Protection Agency) and FTC (Federal Trade Commission),” says Marcella Rojas, spokeswoman for the California Motor Car Dealers Association (CMCDA). “Dealers must comply with a myriad of rules and regulations involving every conceivable aspect of the business, including sales and leasing requirements, licensing, advertising and repair practices, credit and insurance rules, warranty laws, and more. That’s beside the countless regulations that all California businesses must adhere to.”

Setting new rules regarding the sale of new and used cars, the California Car Buyer’s Bill of Rights requires dealers to provide an itemized price list for warranty and insurance products if those items are financed, and caps fees on financing deals at two percent for a loan of 60 months or more — 2.5 percent for loans of 60 months or less. It also mandates dealers provide customers with their credit score and an explanation of how it was used.

“We (car dealers) were willing to agree to the reforms that ended up in AB68 because our dealer members have never condoned payment packing, and making it an illegal practice made a lot of sense,” Rojas adds. “It’s in the best interest of all dealers to get rid of the bad apples who engage in this illegal activity.”

How the Industry Gave Itself Away

The industry became a blip on the radar screens of regulators during the well-publicized case involving the actions of four dealers and three national firms in the state of Washington between 1995 and 1998. It resulted in eight enforcement actions and $2.4 million dollars in costs and fees, civil penalties, insurance fines and more.

What followed was a 1998 investigative report by ABC’s 20/20 into the deceptive practices of “packing” car payments during sales negotiations, bringing the practice to a national scope.

Led by the Washington state Attorney General, the National Association of Attorney Generals adopted its “packing” resolution in 1999. It requested Congress, the FTC and Federal Reserve Board to add the practices of “packing,” “loading,” “assumptive sales” and “rolling term” to the Consumer Protection Act.

“The report by Sam Donaldson sent shudders through the credit industry,” says David Walsh, consumer protection chief for the Washington state Attorney General’s Office, who says the NADA released its dealership ethics code shortly after the 20/20 report. “Washington led the way in the late 1990s, when these deceptive practices were the cornerstone of F&I profitability. Just talk to Jim Ziegler (famed dealer consultant and magazine columnist), he’ll tell you the Washington story.

“He and other well-known trainers told us all about the packing scheme. So we took a look.”

Since then, says Walsh, complaints against auto dealerships in his state have declined from approximately 1,600 in the late 1990s to about 1,100 in 2006. He says automotive-related complaints remain a top concern nationally, but could not say for certain if the decline in automotive-related complaints in his state was due to the actions his office took seven years ago.

“The genie was out of the bottle at that point,” he says. “The industry literally woke up.”

Baptism by Fire

The industry has moved to quell the practice of padding payments. National, state and local dealership associations have warned dealers against the practice through training and education. In December, the New York State Automobile Dealers Association (NYSADA) agreed to promote Compli’s Dealership Compliance Management System (DCMS) to its nearly 1,200 members, and Compli officials say the company is in discussions with a number of other state dealer associations.

McGrath says the passage of the packing resolution gave credibility to the actions his office has taken against dealerships. His baptism into the automobile industry involved the well-publicized case involving Gunderson Chevrolet in El Monte, Calif. — an AutoNation dealership located approximately 15 miles away from McKenna BMW.

McGrath’s investigation began after a local KCBS-TV report in May 2000 about the dealings of what was then the largest Chevrolet dealership in California. In October 2000, the DMV charged Gunderson with defrauding customers through price packing, and settled in April 2001. The case was then referred to McGrath’s office.

“That was my entry into the automobile industry,” he says.

As part of its settlement, Gunderson paid $900,000 in monetary settlement jointly to the DMV and District Attorney’s Office. It also paid restitution to consumers that amounted to more than $1 million, and was forced to close its sales department for six consecutive days. The dealership’s license was also placed on probationary status for four years, and Gunderson paid the DMV $200,000 in investigative and legal costs.

The illegal actions taking place at the dealership occurred between February 1999 and May 2000, when more than 1,500 customers were subjected to fraud, deceit and misrepresentation in connection with the sale and lease of new and used vehicles.

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“It comes down to getting training on how to do it the right way, but it seems, based on the number of investigations we’ve had, there’s always somebody who’s a greater salesperson where the rules don’t apply, and who is given great leeway,” says McGrath. “The one question I asked Gunderson was, ‘You have two F&I managers who have fantastic numbers and are doing it the right way, why aren’t you training all your people to do it the right way?’”

As part of the settlement, AutoNation also agreed to pay for five unannounced audits by the DMV, amounting to $50,000. AutoNation has gone even further since then, noted Kevin Westfall, AutoNation’s senior vice president of sales, at the magazine’s November F&I Conference and Expo.

“If we have one bad associate, he can take the whole brand down, the whole market,” he said. “I tell you, our company is serious about F&I, making sure there’s full disclosure, full transparency.”

Officials of AutoNation could not be reached for comment, but Westfall said during his presentation that the company has become vigilant when it comes to the dealings of its approximate 300 new-vehicle franchised dealerships.

The company requires all of its stores to utilize electronic menus. It also has complete control over what lenders each dealership can use, conducts regional audits — including unannounced visits — and holds general managers fully accountable for their stores.

Westfall also said the company employs mystery shoppers. Each dealership customer is also asked to sign a pledge presented to them before they enter the F&I office. Aside from promising that the dealership will offer great rates and products, the pledge informs customers that the dealership will retain a portion of the financing charge and will receive other compensation for financing their vehicle.

“I see a lot of pledges, but I don’t see that one,” he said at the conference — his message sounding like both a commercial for AutoNation and a message to attendees about what’s required in today’s regulatory environment. “We had to put this pledge out there because even though we have all this documentation, we can’t oversee every single transaction between the consumer and the F&I associate.”

Will It Continue?

AutoNation is not out of the woods yet. McGrath confirmed that another AutoNation store in Cerritos, Calif. — less than 20 miles away from Gunderson Chevrolet — is also under investigation, stemming from a raid of the dealership approximately two years ago.

The location was also charged in October 2002 with false advertisement by the DMV, and was placed on three years’ probation for failing to sell vehicles at the advertised price, and for allegedly requiring customers to purchase extra accessories in order to get the vehicle at the advertised price.

“Consumers, for the most part, aren’t going to know,” says McGrath. “We can educate them, but until they’re actually sitting down at a dealership and trying to go through this process, it’s very difficult to comprehend. The consumer is at a very distinct disadvantage.”

The NADA is hoping that a more educated consumer will help deter bad practices at dealerships with its Americans Well Informed About Automotive Retailing Economics (AWARE) — an initiative the association co-founded with the American Financial Services Association. Eric Hoffman, spokesman for AWARE, says the program is already paying dividends.

“We conducted a survey last summer, and it showed that 80 percent of customers were satisfied with the financing function,” he says. “But opportunity still exists, as 70 percent of the people we surveyed said they want more information on automotive financing.”

On the dealer side, the Association of Finance and Insurance Professionals (AFIP), founded in 1989, has worked diligently to improve the image of the automotive financing industry through programs such as its AFIP Certified Professional Program, which is recommended to dealers by the NADA. The association also works with state and metropolitan dealer associations to raise awareness on regulatory compliance and ethical practices.

“My challenge to F&I, and it’s what I told my men in Vietnam, is don’t get shot with your own bullet,” David Robertson, executive director of AFIP, told audience members during his presentation at the magazine’s November conference. “There’s no glory in getting shot with your own bullet. If you’re working F&I and doing it right, the odds of someone getting you decreases.”

The NADA’s Hoffman also encourages dealers to get out into their respective communities to help educate consumers about financing, saying an educated consumer is in the best interest of all industries.

“It makes good business sense to have an educated consumer,” he notes. “Buying a new car or truck is the second biggest purchase in one’s life. I would encourage folks to do what AWARE does — work in your communities and help empower people.”

Industry Remains a Target

McGrath’s mental list of major dealerships he’s gone after included names other than AutoNation and McKenna. Last May, the DMV put Honda of Santa Monica on probation after the dealership’s sales employees were convicted of defrauding customers out of hundreds of thousands of dollars.

Currently owned by Sonic Automotive Inc., the dealership was under the ownership of Kramer Motors Inc. when the alleged fraudulent actions occurred. The location had its license placed on probation for five years and paid $75,000 in penalties to the DMV. The dealership will also undergo six audits by DMV investigators during the next five years.

Separately, criminal cases were levied against six former sales employees of the dealership for allegedly scamming customers by tacking on charges of “theft etch” to their contracts without their knowledge. On some contracts, the feature looked like a DMV fee, and in at least one case, the customer was told it was a DMV fee.

Sonic Automotive Inc. was also forced to hire an outside firm to serve as an administrator in the handling of reimbursements to the bilked customers. It was estimated that Sonic will pay back about $829,000 in reimbursements.

McGrath’s office launched its investigation in July 2002, after an employee tipped investigators off to the alleged scam. The dealership was raided by investigators, including FBI agents, who seized files and computers from the dealership’s finance and sales departments in September 2002.

“What the attorneys for these dealers would argue is that the consumers got the benefit of the bargain,” McGrath says. “They will argue that the consumer wanted to pay this much per month on a payment, and that’s exactly what they got. The fact that they were charged $1,000 for a key chain doesn’t matter because the consumer negotiated that price.

“The problem with that argument is that this is a classic example of grand theft by false pretenses.”

Attorney General Walsh agrees, and adds that he sees even bigger problems on the horizon. Identity theft, spot and “yo-yo” deals, rolling payments, as well as changing terms to get customers recontracted are other practices that have him concerned.

“No one can stand up and defend packing,” he says. “The phenomenon that concerns me now is people coming into dealerships upside down. People are driving one car and paying for three.

“You also have outside pressures weighing in on this industry that can increase the pressure to be deceptive,” he adds, referring to concerns about declining consumer credit and the housing market. “I think the industry is facing a paradigm shift if it continues to sell based on payments. This is something the industry is going to have to analyze.”