Last month, I described the benefits of lease-here, pay-here (LHPH) for buy-here, pay-here (BHPH) dealers, along with the risks and pitfalls. The major benefit I described was cash flow. However, franchise dealers have an even bigger benefit. As auto lenders continue to tighten their credit standards for less-than-pristine credit risks, an LHPH program can capture subprime business that otherwise will be lost.
CNW Market Research recently found that the lender application approval rating was 22.7 percent for the first three quarters of this year compared with 67 percent last year.
Another issue warrants repeating: Based on feedback I’ve received (including copies of IRS audit findings), many dealers around the country have started rent-to-own (RTO) or lease-to-own (LTO) programs without proper legal and tax accounting advice. It’s imperative that such programs meet all government-mandated “true lease” tax and regulatory requirements. For an accurate (and entertaining) description of the legal issues to be resolved that expands on my description in Part 1, see “Run Like Hell” by Thomas B. Hudson.
If you’ve decided to implement an LHPH program, the next challenge is to implement it in such a way as to overcome the inherent obstacles without undue delay or financial strain. Described below are your options for implementing a successful LHPH program, but please note that the following does not apply to “Rent-to-Own,” “Lease-to-Own,” “Lease Purchase,” “Disguised Conditional Sale” or any other program that is not both a “true lease” for IRS purposes and a “lease” for federal Regulation M purposes.
In-house vs. outsource
The first and most important decision is the process and human resources you will use to implement your LHPH program. The two basic choices are:
In-house: Hire staff with the experience and expertise to design and implement your program, or
Outsource: Hire an expert third party to design the program and train your staff.
The in-house solution offers the potential advantage of reducing your startup costs and fostering the expertise among your staff that will allow your dealership’s program to operate successfully. I say “potential” because there is a major problem that must be avoided at all costs.
Very few experienced LHPH people are available, and most have gained their “expertise” in RTO or LTO programs that had serious compliance deficiencies. If you start your LHPH program with someone whose expertise is “wrong,” in the best case you will begin your program with compliance problems and spend lots of time and money with your outside accountants and lawyers. That means re-educating your in-house “expert” and reworking his or her deals. In the worst case, you won’t know what your noncompliance is costing you until you have a sizable portfolio and owe hundreds of thousands of dollars in back taxes, penalties and consumer judgments for substantive legal violations, including inadequate disclosure.
Developing an LHPH program from scratch and learning on the job is always an option, but it may cost more time and money in the long run than hiring outside experts to develop your program and help your staff learn to operate it correctly.
Outsource options: Customized vs. turnkey
If you go with the outsource option, your next decision is whether to develop a “customized” program or choose a “turnkey” solution. By turnkey, I mean an off-the-shelf program that starts with a lease agreement, a handbook that includes all program design and operation rules, and the various other customer and internal documents your lawyers and accounts will need to approve the program and correctly account for the lease transactions. Of course, some customization will always be necessary, even with the best turnkey program. But there’s a big difference in time and cost when you start with a clean slate rather than just a proposition.
Advantages of a customized program: For the very largest dealerships, I would recommend a customized program. A high-volume lot will want to educate many of its own staffers in the numerous LHPH issues. The best way to do this is to work closely with a third-party consultant in developing a customized program. That way, the dealership will bring its own marketing, accounting, tax and legal expertise to bear in making the choices involved in an LHPH program. The results should be worth the added time and expense because everyone will understand and support the program (and stay on the same page in implementing it). A customized program also should be the best and most cost-effective solution to the LHPH risks and pitfalls — and that approach avoids the unintended consequences that can arise when a program is implemented without a full understanding of the issues among the staff.
Advantages of a turnkey program: For most existing BHPH and start-up dealers, the cost of a customized program simply can’t be justified. The key, then, is to find a competent, cost-effective turnkey program that can get you started with all the materials you need as well as the necessary flexibility for your geographic and business needs.
The right turnkey program allows you to “piggyback” on the expertise of the consulting firm that developed it and the experiences of other dealers who have already implemented it. You don’t want to pay to reinvent the wheel, but you still have to do your due diligence on the consulting firm and the program’s tax, accounting and legal components to get assurance that it complies with all requirements in the way you intend to operate it. Just because some dealers are using it (and particularly if it has been marketed in the past as an RTO or LTO program) doesn’t mean that it complies with all legal, tax and accounting requirements.
Staffing is key
Whichever approach you decide to take, you need to have someone on staff with the motivation and attention to detail he or she will need to thrive in the role of in-house expert. Leasing experience at a dealership is generally a plus, but there is a lot more to designing and managing an “in-house” leasing program than just originating leases and selling them to third parties.
Leasing experience in a finance company generally is better than dealership leasing experience. However, a self-financed leasing environment is very, very different from operating a prime-leasing program for a large finance company. Thus, be wary of anyone who insists that they know it all when it comes to leasing! Better to have a smart, motivated staffer who understands your existing business and is ready to soak up knowledge like a sponge.