By Greg Johnson. Car sales are booming and lenders are clamoring for indirect financing business. Now is a great time for dealers to dust off and review their Dealer Agreement (a/k/a lender master financing agreements) with lenders, particularly the warranty, indemnification and repurchase provisions. Dealerships can, and should, review the terms of their Dealer Agreements on an annual basis and negotiate the provisions of those agreements to reduce the potential of a large, uninsured repurchase exposure.
Dealer Agreements (“DA”) are drafted by attorneys for the lender and, as such, are quite favorable to the lender. The typical DA requires the dealership to warrant that it “will comply with all applicable federal, state and local laws, rules and regulations including without limitation all consumer protection and consumer credit laws, the Federal Truth in Lending Act and Regulation Z, the Fair Credit Reporting Act, the Gramm-Leach-Bliley Act and the Federal Equal Credit Opportunity Act and Regulation B.”
The DA will then mandate that the dealer repurchase any retail installment sales contract (RISC) the lender violates federal or state law regardless of whether (a) the customer defaulted on the RISC; (b) the customer claimed the dealership violated any law; (c) the violation (if proven) caused the customer or lender any damage or harm; (d) the dealership had actual knowledge or even reason to know it was violating a law; or (e) the dealership was even the party responsible for the violation.
For a partial listing of federal and state laws that regulate auto dealerships, see my article: Auto Dealer Arranged Financing: 51 Laws Dealers Must Know (here)
The lender repurchase exposure is quite problematic from a dealership’s standpoint:
First, typical garage liability (a/k/a auto dealer coverage form) policies will not protect the dealership against lender repurchase claims. Many garage policies are limited to suits brought by customers, not suits brought by lenders. A typical policy requires the insurer to “pay on your behalf all sums you legally must pay as damages because of a claim or suit brought against you by a customer during the policy period.” In addition, most liability policies contain a contractual liability exclusion barring coverage for “liability for which the [dealership] has assumed in a contract or agreement.” This means the dealership’s policy will not cover the cost of defending the dealership in litigation commenced by the lender much less indemnify the dealership for any amounts it may be required to pay the lender to repurchase the RISC. The uninsured exposure can be significant, particularly if the violation stemmed from an ongoing business practice and affected hundreds, if not thousands, of RISCs.
Another problem is that the typical DA obligates the dealership to pay the full repurchase price regardless of whether the vehicle has been damaged or has been forfeited due to seizure, impoundment or abandonment. Further, the typical DA provides that the lender has no obligation to repossess or otherwise secure the vehicle for the dealership as a condition of requiring the dealership to repurchase the RISC. In short, the dealership may be contractually obligated to pay the full repurchase price on a vehicle (or vehicles) that is entirely worthless or cannot even be located.
The dealership in Mid-Century Ins. Co. v. Vinci Inv. Co., Inc., 2010 WL 673267 (Cal. Ct. App. Feb. 25, 2010), was lucky, at least in part. In that case, the credit union’s lawsuit against the dealership involved the RISCs of over 200 customers. The credit union claimed the dealership was required to repurchase those contracts because it had failed to disclose deferred downpayments which it claimed violated the California Automobile Sales Financing Act (“ASFA”) and Regulation Z, 12 C.F.R. section 226.18. The credit union demanded in excess of $1.5 million in settlement. The dealership’s insurer, Mid-Century denied coverage for the repurchase lawsuit. However, the policy contained a rather bizarre insuring clause obligating the insurer to defend against and “pay all sums . . . involving any negligent act, error or omission committed by the [dealership] in failing to comply with [TILA] or any State law on Truth in Lending.” Noting that the term “involving” is a very broad term, the California Court of Appeals determined that Mid-Century was at least obligated to pay for the dealership’s defense in the lawsuit. The case was remanded to the trial court for a determination of whether Mid-Century was obligated to pay any part of the $1.5 million dollar demand. It is important to note that the term “involving” does not appear in any current dealership garage liability policy forms.
Dealerships can, and should, review the terms of their DAs on an annual basis and negotiate the provisions of those agreements to reduce the potential of a large, uninsured repurchase exposure. This annual review should be incorporated into the dealership’s Compliance Management System. While lenders hold the cards and can insist on their boilerplate contract terms when the economy is down and credit is tight, dealerships can demand modification of terms today, particularly if they do a large amount of business with the lender and have the ability to direct that business elsewhere.
This blog is for informational purposes only. By reading it, no attorney-client relationship is formed. The law is constantly changing and if you want legal advice, please consult an attorney. Gregory J. Johnson ©All rights reserved. 2015.