How a Car Dealership Really Makes Money From You: Car Salesman Confidential

UPDATE: The first vehicles with higher prices due to tariffs started arriving at our dealership last month. Everyone thought they would arrive almost immediately, back in April, but it took until June. Surprisingly, none of our customers seem to have noticed—yet. But you’d have to be a detective to figure it out. The increase isn’t designated anywhere on the window sticker or called out with the word “tariff.” It’s simply rolled into the base price of the vehicle (see “How to Read a Window Sticker”). To discover the increase, you’d first have to find two vehicles with identical features, one made before tariffs, the other after, and compare their base prices. The new ones are $1,600 higher. Only extremely astute observers will ever notice, because the dealership doesn’t advertise it. And so far, no one has complained. So, for now at least, it seems as though the average consumer has adjusted to paying more.

When I'm negotiating with a customer, we sometimes get to a point where we just can’t discount the vehicle any more, and I tell them we're already losing money at the price we're giving them. The customer always smiles knowingly and says something to the effect of, "Don’t try to fool me. You're not losing money. You couldn’t stay in business if you lost money."

But we do. Car dealerships lose money on individual sales all the time. The reason people don't believe me is, first, I'm a car salesperson and everyone thinks we always lie. But the main reason they don't believe me is that they don't understand how car sales work.

The Front End vs. the Back End

Sales price is only part of the equation. It's called the front end of a car deal. The other part is financing, or the back end. And finally, there's the big picture, or the overall profit made by the dealership over the course of an entire month—that's the only thing the dealer principal, or owner, really cares about. Consumers make a huge mistake when all they focus on is price.

Let me give you an example. Recently, I took four fresh "ups" (aka customers) who walked through the door without an appointment. The first three didn't buy. The fourth did. The dealership as a whole sold only seven cars that day (we're a relatively small-volume dealership). My deal was number seven.

Of the six deals prior to mine, the dealership lost approximately $5,000 on the front end because we discounted the cars so heavily. Yes, you read that right—we sold six cars and lost $5,000. On my deal, however, I was able to "hold gross," or sell the car for the asking price, and we made $8,000 on the front end. Pat myself on the back, right? Then my customer financed the purchase, and we made money off that. When you add it all up, the dealership grossed about $3,000 on the front end of the seven cars. Which isn’t very good, but at least we weren't in the red. But the key is we made $19,000 on the back end thanks to financing. So, when you look at the overall picture, the dealership made $22,000 that day. Not too shabby.

It’s All About the Financing

Most consumers don’t realize this is happening. They've been taught to focus on price and price alone—but the real money is made in financing. People will argue with me for hours over a few hundred bucks in price—and then give away thousands on the back end when they finance with us. It's insane.

When you pay with cash, the only thing the dealer gives up is the difference between the true cost of the car and the MSRP, which is a very small piece of the pie. Most invoices have a built-in profit margin of about 3 to 10 percent, with trucks and luxury vehicles seeing as much as 15 percent. So, if you’re looking at a $20,000 vehicle, the biggest discount you can get is somewhere between $600 and $2,000—not the $5,000 you’re looking for. And that’s just gross profit. Once you subtract the dealership’s operational costs, including employee salaries, interest payments, insurance, advertising, and utilities and other expenses, the net profit margin is a lot less, around 1 to 2 percent. That means for every $20,000 in sales, the dealership might make as little as $200 to $400 in profit. Simply put: You’re missing out on scoring the best deal if you're hell-bent on lowering the price and paying in cash.

If a dealership knows it can make money on the back end, it'll gladly give up more on the front end. It may even go into the red to sell you a car. So, if you want the very best price, tell them up front that you’re willing to finance with them—and then pay off your loan after two or three months if you can to avoid paying a lot of interest. There’s no penalty, and everyone benefits.