How to Buy a New Car
First, I want to give credit to Brent Hill. In 2003, Brent overheard me one day dreading an impending car purchase. He told me not to buy a car until I talked to him about a “system.” Brent proceeded to walk me through a series of steps to minimize the pain and maximize the success of a new car negotiation. Much of what is outlined below is a derivative of his methodology.
I’ve purchased two new cars in my life. With car 1, I’d give myself a “B” grade. I thought a lot about how to improve “the system” for the next time, and I did much better job with car 2. These two experiences color my perspective below.
This is for new cars only, not for used cars. The market and pricing for used cars is dramatically different, and I don’t have experience navigating the used car market. So you’ll have to look elsewhere for advice on that.
Step 1: Choose the car you want.
Choosing the right car is not the focus of this post, but I love going to car shows because it’s terribly efficient. You can check out a ton of cars very quickly. You should be able to narrow your choice to 1–3 finalists.
I am a religious follower of Consumer Reports. It’s much better to get statistical reliability and experience data than it is to get anecdotal feedback from friends on like their car. You might be really popular, but your friends are too small a sample set to get any real information. Finally, Edmunds.com is a great resource for narrowing choices. Do not start a negotiation until you have chosen the car you are going to buy.
When you’ve narrowed down your choice to 1–3 cars, go to the most convenient dealership and test drive the car. This may or may not be where you ultimately buy the car. Some people feel an obligation to buy from the person who helped you test drive the car. I would suggest that you can fulfill your moral and social obligation to this person by being sure to include that person in the reverse auction you are going to run (more on that later).
Step 2: Determine Financing
There are other places to finance a car versus the dealership: your bank, your mortgage company, credit unions, etc. Often times you can get a better rate through these relationships than what the dealer will offer you, but beware that some of these lenders will lend less than 100% of the car (some ~80%). Having financing arranged before talking to a salesman will give you great leverage since you are not forced to take the financing rate they give you. It also has the potential to eliminate a moving part of the negotiation, which means it is one fewer opportunity for a dealer to take advantage of you.
Don’t forget to check your and your spouse’s credit before looking into the financing. You can get a free credit report annually from www.annualcreditreport.com. Note that www.freecreditreport.com is not where you get a free credit report.
Step 3: Determine, as best as possible, what the dealer paid for the car.
MRSP or “sticker” is a made up price. Ignore it. Pretend it doesn’t exist. It has no relationship to what the dealer paid for the car, and any negotiation that is done relative to this price is a huge mistake.
Many consumers know the sticker price is a joke, and believe that invoice price is what the dealer paid for the car. That’s not true either. Here is what the dealer pays:
Dealer Cost = Invoice price of car + invoice price of options — holdback — factory to dealer incentives (which have a host of different names) + delivery charges + sales tax + plate transfer/new plates
The invoice of the base car and the invoice price of options is publicly known and published by the manufacturers. You can go to a manufacturer’s website and cobble this figure together.
The holdback is essentially a “built in profit” for the dealers. If a dealer sells a car at invoice price when it arrives on the lot, and if there are no incentives, the dealer will make the holdback in profit. So when a dealer shows you the invoice and then tells you that they aren’t making any money if they sell to you at invoice, that’s total bullshit. Tell them that no one sells new cars at a loss, and that they are making the holdback.
The good news is that holdbacks can be calculated. Here’s a table of them:
http://www.edmunds.com/car-buying/dealer-holdback/
Each manufacturer calculates them on different bases (sometimes MSRP, sometimes invoice) and it’s always some percentage of these figures. Make sure you are calculating on the right base.
The downside of holdbacks, which clouds your analysis, is that the amount of the holdback declines over time, typically 90 days. This is a way for manufacturers to encourage dealers to sell cars quickly. So if a car is on the lot 90 days, the built in profit from the holdback evaporates.
You can assume that popular cars that sell quickly will have most of their holdback. Cars that are selling sluggishly will have less holdback. When you identify a particular car out of a dealer’s inventory, you should ask when they purchased it. You should get a direct answer. If not, you can try to get a sense of inventory velocity by asking casual small talk questions like, “seems this is a pretty popular car. You must be selling a lot of these lately, especially with your mad sales skills.”
Another murky part of the analysis is the dealer incentives piece. These are not advertised. Sites like Edmunds, Cars Direct, Cars.com, Consumer Reports and others have some hidden incentives listed. You should look at the discussion boards on Edmunds for more details. Don’t forget to Google “dealer incentives” plus your car name (e.g., Toyota Camry dealer incentives) to capture all the information sources you can. Try to get a read on the total incentives and subtract that from the invoice price. Note that these are not happening all the time and depends on the popularity of the model.
Note that manufacturers can also set up other incentives for sales people like spin/pullboards. These are perks typically directly to sales people (not the dealer) for selling a certain model of a car. This is not money you can capture as a buyer but recognize these may alter the incentives of the salesperson. It’s another reason to choose your car before walking into the dealership.
Finally, you owe sales tax on the car. In Illinois, taxes are owed based on where you live, not by where you buy the car. I don’t know what happens if you buy a car in another state, but within Illinois, there is no opportunity for tax arbitrage if you drive a couple towns over. Make sure you know what the tax should be for your area and make sure it is calculated correctly. During the car 1 negotiation, “Q” pretended to be confused by this when I pointed out that the taxes were not calculated correctly. He blamed it on “finance” and came back with the correct numbers. Another reason to figure out the EXACT price before you leave home.
You will have to either transfer registration of your existing plates (bring them to the dealer) or apply for new ones. You should pay the public rates for doing so as if you walked into a DMV. Again, make sure you clarify this with the dealer before you leave your house.
Once you determine what the dealer paid for the car, you should seek to provide the dealer with a modest profit. A modest profit is anything under $750. Maybe closer to $1000 for luxury cars, but in any case, it’s a pretty small number. So add $750 -$1000 to your estimate of what the dealer paid, and this is your target car price.
I say “target price” because ultimately the price for a car is driven by supply and demand. For example, when the government was subsidizing the purchase of fuel-efficient vehicles, the Prius became even more popular. Buyers were paying several thousand more than invoice to purchase a car. It’s interesting to note that some or all of the advantage of the subsidy was eroded by the increase in spot prices for the car.
Finally, you should read the following articles. The first talks in more detail about dealer cost, the others talk about negotiation tactics of car salesmen. It’s mostly related to in-person negotiations, but helpful (and interesting) nonetheless.
http://www.edmunds.com/car-buying/dealer-holdback/
http://www.edmunds.com/car-buying/confessions-of-a-car-salesman.html
http://www.edmunds.com/car-buying/confessions-of-a-car-salesman-updated-for-2009.html
Delivery charges are legitimate. They are fixed by the manufacturer and are usually around $500 or so. Document fees, dealer prep, etc. are all bullshit fees. Dealers are required by law to keep documentation for seven years which is how they may justify them. Tell them you aren’t paying for them and that other dealers aren’t charging you for that. If they insist on keeping them in, they are going to lose the auction. Or they can keep the fees in if it makes them look good to their boss, but then the price of the car has to come down. Again, you are negotiating from cost + acceptable modest profit. In some markets, all dealers will charge a doc fee so you have less leverage.
One word on “buying services”. They are usually lousy prices. I checked Costco and alumni programs and the prices they were all quoting were pretty lousy in both cases. Save yourself the time and skip them.
Step 4: The phone/email auction
This step is the one where you can make the biggest mistakes. So here are some rules to help guide you.
Rule 1: All negotiations are over the phone or email, period.
Car salesmen are exceptional negotiators. Even if you negotiate in your job, you aren’t negotiating car sales all day, every day. Some people make the mistake of looking down on a car salesperson and let their ego get in way. If you do that, it will cost you money. You have to objectively understand what you are up against. There is serious information asymmetry and you are on the wrong side of that equation.
Negotiating on the phone deprives the salesman of information about you that can be turned against you. You may be reluctant to walk out of a dealership because you are exhausted from physically hopping from one dealership to another. There is little effort in hanging up the phone and dialing the next dealership.If you negotiate over email, use a personal and not work email address. Make sure there is no information in your email signature.
Doing a negotiation over the phone or using a personal email address also eliminates a weapon that salesperson can use against you: time. Often, when negotiating in person, a salesperson will go to the back room to talk to a real or (often) fictitious manager. This maneuver is mainly aimed at wearing down a buyer. Again, this doesn’t work when the conversation happens over the phone or email.
Your goal of the phone/email auction should be to identify an exact car with the options you want, negotiate its exact price and verify the invoice before agreeing to travel to a dealership. When you step into a dealership, you are there to complete the transaction already agreed upon, NOT to negotiate. Basically, sign papers, check the car, and drive it away. If you are negotiating at the dealership you have made a mistake or the salesperson is reneging on the deal.
Here’s how I wrap up the negotiation: “I am writing one check for the exact amount before I leave my house. I need to know all the taxes, fees, exact price etc. before I leave. If what I owe you is any different, I am marching out of your dealership with Twitter, Facebook and Yelp a’blazing telling people about my bad experience. So this number better be right.”
Rule 2: Do not reveal anything about your preferences or your lifestyle during the negotiation.
Salespeople will use every piece of information against you. If you show up in person, your body language, interaction with your spouse, what you wear, your jewelry…all will all be used against you. In addition, if you wind up in a far-flung dealership, and you are a motivated buyer, a salesperson knows that you aren’t going to truck all the way back home empty handed. I learned this the hard way when negotiating for car 1. The salesman, named “Q” (I’m not making this up) literally told me that he knew that I wasn’t going to leave because I lived downtown and that I wouldn’t have driven to Elmhurst, IL if I wasn’t serious about leaving with a car. Newman! He was right.
Casual, harmless conversation is purposeful. Here’s a list of questions you should never answer:
Lifestyle:
“Where do you live?”
“What do you do for a living?”
“What car do you drive now?”
“Do you have kids?”
All of these questions are aimed at gauging your financial wherewithal. DO NOT ANSWER A SINGLE ONE OF THESE QUESTIONS. Say, “I am a very private person, can we please get back to talking about the car?” You might sound like a jerk, but this works and this step is really important.
Another method is to ask for your phone number or your name. Give your first name only. Do not provide your phone number. Tell them YOU will call THEM back. Salesmen have Google and paid information services, so if you don’t give them answers to the questions above but give your full name/telephone number, your echo on the Internet is going give them all the answers anyway. The one exception to this rule is that if you test drive a car, you will need to give them a little bit more than your first name naturally.
Don’t answer these questions about car preferences:
“What color car do you want?” (almost ALWAYS the first question)
“What options are you thinking about?”
“What’s most important to you in a car?”
“How are you going to pay for the car?”
You probably think that you have to answer these questions at some point. But you don’t…except for the financing question which you should reveal only after a price has been negotiated. Most dealers nowadays list their inventory online. You can see exactly what cars with what options are available. So tell a salesman that you haven’t decided but that you are interested in the following three cars on their website…then rattle off the cars. This disguises your exact preferences while still allowing you to get the prices. The reason you want to disguise your preferences is that the moment that you reveal a critical feature, the salesperson can hold firm on a price with cars with those features. It gives him/her leverage. In other words, the car with the features you want is “suddenly” more expensive. This happened to me with car 1. I told the salesperson that we preferred black as a color. “Bad news Mr. Heltzer. We only have one black car on the lot. The good news is that has some extra features: mudflaps and undercoating. I know you didn’t say you wanted these features, so I’ll give you a deal on the features, but if you want a black car, this is one I’ve got and it costs $850 more.” Or something like that. Whether this was true or not was questionable, and this constraint in the inventory could have been artificial. But I was there in person, I didn’t walk the lot, and inventory, in those days, wasn’t available online. I was stuck unless I walked out. On the phone you can combat this easily: “I’m terribly sorry. I was interested only in the car as I specified. I am not interested in those features, so unless you are willing to give them to me for free, then you are no longer going to be participating in the auction.” Again, this assumes that the car in which you are interested is generally available.
Rule 3: The auction is over when a salesperson says “if that price is real, then I would buy the car from them” or when a salesperson starts trading a full tank of gas or the carmats (the cheap stuff).
Salespeople, by their very nature, are aggressive beasts. They HATE to lose a sale to a motivated buyer. In the negotiation of car 2, one salesperson told me, “if that is really the price they are willing to do, you should buy from them. I bet you something is fishy with their price, but if it’s real you should take it.” I told him, “I am really surprised that you are telling me to take money out of your pocket and money in the hand of your competitor. I know the deal is solid, I checked the invoice numbers and every fee. So I am going to drive over there now. I’m going to give you my cell phone if in the next hour you change your mind and want to stick one to your competitor.”
It was 10 minutes before that the dealership I eventually bought from was saying they were willing to meet my price but that the car was not going to be full of gas or they were not going to give me the car mats. I told them, “Really guys? You are going to go out to the car and siphon out the gas? I thought we were building a nice relationship here. And no car mats? [in a joking tone] You are starting to get me spooked that the car is not going to come with a battery or steering wheel. This deal is yours to lose right now if you start haggling over nickels and dimes.” They capitulated and the deal was closed.
Rule 4: Eliminate moving parts
Salespeople love moving parts to the negotiation because this complexity gives them an asymmetrical information advantage over the counterparty. In other words, there are more opportunities for them to make money and for you to make mistakes.
You can eliminate these moving parts by:
- Establishing outside financing (discussed above).
- Selling your used car in a completely different transaction.Do not trade in your car. You will never get the full value of it by doing so.
- Buy, do not lease. Leasing is an expensive way to have access to a car, so you should avoid it unless there are special circumstances. Leasing requires you to negotiate several economic terms: interest rate, total price, terms of lease, residual price. That’s a lot of moving parts and hard to benchmark.
Rule 5: Buy your car close to the end of a month/quarter/year.
Many manufacturer to dealer incentives and many dealership sales quotas require achievement of certain sales milestones over a given period of time, such as a quarter or year or even month. Going at the end of the year buys you all three. You may find that salesmen are willing to make less profit on you in a quest to hit a threshold to make a sales quota for the time period. Holdbacks are paid at the end of the calendar year. I think this makes buying at the end of the year a decent idea since the dealer will see that cash immediately and therefore may be willing to take less for the car.
Fallacy: “I have a guy. He’s great and always hooks me up with a great price.”
How does your friend know that he’s getting a good price? It’s a good idea to include such a person in the auction. But I recommend that you do not change your speech or the methods you use. Buying a car is a stressful experience for most people and this type of relationship can be comforting, but it may come at a cost if that salesperson takes advantage of that trust by knowing that you aren’t talking to competitors.
Fallacy: “I want to buy from the closest dealership because I want to have convenience when I get my car serviced.”
If your car comes with free service for some period of time, just go to the most convenient dealer. It will still be free, despite what some salespeople will tell you. If you do not have free routine service, go to a reputable independent garage. Consumer Reports did a study and the repairs were better and cheaper at independent garages.
How to get the auction started
Here is how to start a conversation with a salesperson on the phone or email:
“I am buying a car today. I am running a reverse auction (lowest price wins). I am going to determine the best price and drive to one dealership to buy it today.”
This communicates a couple of things immediately. One, you mean business. Two, it’s an auction so he should give you his best price. Three, this is going to happen quickly over the phone or email, and can be a quick sale but it will be won with the best price.
Step 5: Close the transaction
After you have verified every last number to the cent, you head out to the dealer. Make sure you ask the dealer what paperwork you need. License, proof of insurance, stuff like that.
First verify all of the numbers before you start signing papers or look at the car. You want to know immediately if there is a problem, not after you have invested time at the dealer. People are vulnerable to the sunk cost bias and will be tolerant of mistakes at that point because of the time invested at the dealer. But that time is not recoverable and if something is wrong get corrected or leave on principle.
After that, go look at the car. Make sure it has all of the options as indicated. Make sure the odometer is < 5 miles and that it is in good shape. There might be a VIN on the invoice, you should match it to the one in the car (on the windshield or door jamb).
Step 6: Avoid the add-ons
Extended warranties, extra insurance, rust protection, etc. etc. are all add ons that a salesperson or even the finance person will try to sell to you. You should say no to all of these. Consumer Reports have done extensive statistical studies on the ROI on extended warranties and they are not worth it. Salespeople get huge commissions for them which tells you how much margin is in them. Even for less reliable cars…the manufacturers know those stats too and price accordingly. If you can withstand a larger repair, in the long run you are better off self-insuring.
At this point in the process, you may be exhausted from negotiating or signing papers. And the finance people are not overtly advertised as sales people so your guard may be down. Just beware and realize that many of these things can be purchased separately or later.
Step 7: Remorse?
Illinois has a law that allows you to return a car within 3 days if you feel that you were pressured into buying it. In car 1, I also ran into a situation where an added feature that I did not want but paid for was not on the car. I called the dealership and got money back. So make sure in this period you check things in detail that you didn’t get to at the dealership before signing the papers.
okay, that’s it. Good luck!
