The UK's financial watchdog has banned car dealers from earning commission linked to the interest rate charged on car finance.
The Financial Conduct Authority (FCA) said that up and down the country, car dealers had been rewarded with extra commission from lenders by charging higher interest rates at the expense of customers.
According to the FCA investigation, the 'widespread' practise costs consumers around £165 million per year.
It announced on Tuesday that it had banned the practice, and its members must abandon the scheme by 28th January 2021 at the latest.
Car dealers selling vehicles on finance currently have total control over how much interest is charged on the loan.
Under this arrangement, dealers who sell high-interest loans to unwitting customers stand to rake in a cut of the profits in commission paid by the loan company.
By banning this type of commission, where brokers are rewarded for charging consumers higher rates, we will increase competition and protect consumers.Said Christopher Woolard, the FCA's Interim Chief Executive
As many as half a million car owners in the UK may have taken out finance through a dealership operating under this conflict of interest.
The fact that some car dealers increase consumers' interest rates just so they themselves can benefit from a commission bump is outrageous. As motor finance options are on the up through schemes like contract purchases this is the time to make sure consumers are adequately protected against these conflicts of interestsSaid Citizens Advice Scotland's financial health spokesperson, Myles Fitt.
The scheme works as lenders set maximum or minimum interest rates for dealerships, which broker loans with customer on behalf of the lender.
Salespeople are rewarded with commission on the interest of any loan taken out on their sales: the higher the interest rate, the more commission they earn.
In its preliminary investigation, the FCA estimated that customers were paying an average of £1,100 extra in interest on loans of £10,000 made under the scheme.
The new rules, which come into force in January next year, will also force changes to the way customers are told about sales commission.
A team of mystery shoppers working for the watchdog found that, in dealerships across the UK, customers were being left in the dark about the dodgy commission deal- in breach of the FCA’s rules.
The new guidelines aim to make sure shoppers have more relevant information before signing off on a deal, including information about how the commission is earned.
Last year 9 out of 10 new cars were bought on finance, according to data from the Finance and Leasing Association.
In the same year, the total value of car finance loans taken out across the country stacked up to a whopping £38 billion.
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