How Car Dealerships Really Make Money
They'll try to guilt you into paying a higher price, but don't pay attention to the whining. I'm going to reveal how dealers really make money, and why you should never feel sorry for them.
First of all, most people assume that dealers pay for all their vehicles and have a bunch of money tied up in their inventory. This is false.
The vast majority of dealers take out loans to build their inventory and are essentially "renting" the vehicles. Most manufacturer's provide this financing, known as "floorplan", and that's not all - they also reinburse dealers for this cost through a kickback known as holdback (usually 1 - 3% of the invoice price of the vehicle).
A typical dealer may pay $350 per month to finance each vehicle. If it takes two months to sell, their cost is $700 - but the holdback amount usually covers this. If a dealer sells the vehicle in less than a month, they will make a tidy profit simply on the holdback amount.
But we're just getting started. Let's assume the dealer sells a vehicle within 30 days of delivery and makes a profit of $600 on the purchase price of the vehicle. Their financing cost will be $350, but they will be reimbursed $700 for the holdback, plus they may get an additional $250 kickback in the form of a manufacturer-to-dealer incentive.
When you add the $600 profit to the holdback and other incentives, the dealer has made a total profit of $1,200 and they only had to put up $350. That's more than a 300% return on their investment in less than 30 days.
But wait, there's more! Way more...
Most dealers don't make the bulk of their profits on the sale of a new car. The big profit usually comes through arranging car loans, selling add-ons, and making money on your trade-in.
Dealers can easily make a profit of $3,000 just through the financing alone (see: How Dealers Make Money on Financing). If you have a trade-in, a dealer can make another $2,000 (easy) on that. They simply low-ball your trade-in, then turn around and sell it for a nice profit.
Finally, a dealer will try to sell you add-ons, such as an extended warranty, gap insurance, or other accessories - adding another $750 to $2,000 to their bottom line. If you're going to be servicing your car at their dealership, they stand to make even more profit through parts and service - easily adding another $3,000 of profit over the life of the vehicle.
If you simply focus on the price of the car, you may not think the dealer is making much money, but when you factor in all these other things, a dealer can make $10,000 profit off of just one sale.
Of course, that large a profit is not typical, but most dealers do make the bulk of their profit in areas other than the actual sale of the vehicle. Think about that next time a dealer is whining about not making any profit.
My Recommendation for Car ShoppersTrueCar No-Haggle, Edmunds Price Promise and 1-800 Car Show are the quickest way to see the lowest car prices in your area. These sites show you no-haggle prices from dealers closest to you - and the deals are usually really good. This should be the first step you take when negotiating your car price. Follow this up with my checklist to make sure you squeeze out every last bit of savings.
- Gregg Fidan
About: Gregg Fidan
Gregg Fidan + is the founder of RealCarTips. After being ripped off on his first car purchase, he devoted several years to figuring out the best ways to avoid scams and negotiate the best car deals. He has written hundreds of articles on the subject of car buying and taught thousands of car shoppers how to get the best deals.