New Tax Law Could Threaten Auto Dealers

While it may feel like the auto industry is nothing but blue skies lately, dealer principals might be feeling the pinch of everything from margin compression and higher interest rates to annual sales figures that make the same sound as air slipping out of a balloon ever so gently.

It’s not just the overall sales figures slipping that’s providing a little heartburn. According to the National Automobile Dealers Assn., the average U.S. light-vehicle franchise dealership lost $2 on every used vehicle it retailed in 2017. Per-unit profits have slipped from $65 in 2016 down from $132 in 2015.

F&I however, remains a bright spot. As U.S. new light-vehicle sales fell 1.8% to 17.2 million in 2017, dealerships earned an average of $1,412 in F&I revenue per new and used vehicle retailed, a 3.3% rise from the year earlier. Total F&I revenue rose 6%, nearly the same as the 5.9% growth rate in 2016.

Aside from these figures, the current political environment is also offering a bit of heartburn as well.

The Federal Tax Cuts and Jobs Act (TCJA) was signed into law by President Trump in December and is effective for this tax year. While the legislation was designed to reduce income tax rates for individuals and corporations, it affects the selection and profitability of participation programs for many dealers.

This is noteworthy because dealer revenue is greatly influenced by the type of participation program dealers select.

Under the new tax law, auto dealerships have just a few months before having to make initial decisions on passive foreign income in connection with non-controlled foreign corporations (NCFCs). Many dealership groups participate in NCFCs as a way to defer tax liability and participate in underwriting results. As a result of the TCJA, dealership groups are now faced with a Hobson’s Choice: do what the IRS is expecting to be done or follow the advice of NCFC advisers down another path (or hole).

While NCFCs may have served dealership principals in the past, it may not be a wise move to take a gamble on this structure moving forward. Dealers are gambling that the advisers’ advice will be accepted by the IRS. There’s a lot at risk when rolling the dice with the Internal Revenue Code and the IRS’s interpretation of it.

Dealers will surely be told there’s nothing to worry about – until there is something to worry about when an audit commences. The gamble is that the IRS will accept the proposition that its acceptable to switch from GAAP accounting for the NCFC to a foreign country’s accounting conventions. That’s a risky roll.

There are several types of participation programs available, some more beneficial than others to a dealer’s financial goals. NCFCs have been a popular type of participation program structure – mostly because it’s what dealers have done for years and they simply haven’t had any significant reason to make a change.

However, with the new tax law, it would be prudent to research options.

Having a reliable participation program that contributes to the dealer’s bottom line will always be important. Because of the new tax law, changing tax implications to NCFC may pose a threat to a dealer’s financial goals. But without a solid F&I offering through a reliable participation program that adds to the bottom line, dealers will have more to worry about than just the pace of annual sales.

Richard Hackett has 38 years of experience in the financial services industry. He is senior vice president and senior counsel for Protective Asset Protection, an F&I provider.