In July of last year, a California appellate court handed down a very nasty, published decision that makes backdating retail installment sale contracts even riskier now than it was before. I have been advising dealers not to backdate contracts for many years. However, what triggered a wave of suits in California and other states is a 2002 case called Rucker v. Sheehy Alexandria, Inc., which I reported on back in 2003 and again in 2005 (see, Backdating Contracts May Violate Federal Law, Auto Advisory Services Newsletter, January, 2003, Backdating Purchase Contracts Still Not a Good Idea, Auto Advisory Services Newsletter, September, 2005).
That nasty decision I mentioned is titled Nelson v. Pearson Ford, Co. In this case, the dealership, with customer approval, rewrote a deal and backdated the retail installment sale contract to the original delivery date (six days earlier). The customer sued the dealership, and the case was filed as a class action.
The Nelson court held that “the backdating of the second contract caused Nelson to pay interest on a contract that did not exist.” The court stated further that “We consider this pre-consummation interest to be an illegal finance charge.”
The first major concern with this ruling is that the court definitively concluded that backdating a contract is a violation of California law, specifically, Civil Code section 2982(a). This is one code section that you do not want to violate because such a violation may render the sale contract unenforceable. (Civil Code § 2983)
The second major concern with this ruling is that the court also concluded that the practice of backdating a second contract taken in conjunction with use of a standard Acknowledgement of Rewritten Contract resulted in a single document rule violation. The court held “the second contract violated the single document rule because it did not contain ‘all of the agreements of the buyer and seller with respect to the total cost of and the terms of payment for the motor vehicle….’” (Civil Code § 2981.9) The single document rule is another code section, the violation of which may render the sale contract unenforceable.
So, the dealership ultimately faced a class of 1,500 similarly situated customers who had the ability to return their previously purchased vehicles to the dealership. Yes, you read it correctly. The court basically ordered 1,500 deals rescinded. The only thing that appears to be positive about this ruling is that the court agreed to allow for an “offset” for use of the vehicles. In other words, those customers who chose to return their vehicle would not get a full credit for the original purchase price. Rather, the trial court would have to determine a reasonable credit for use. But even with this offset for use, the dealership was facing millions of dollars in refund costs.
The Nelson case settled before any repurchase determinations were made. However, here are a few lessons we can learn from this case:
Don’t Backdate Rewrites
The first lesson is quite simple, don’t backdate contracts! Backdating has occurred in the past largely due to two factors: (1) lenders requiring the contract date to match registration documentation (e.g., RS date) and (2) incentive cut-off dates. Fortunately, these factors are no longer as much an issue as they have been historically. Due to significant dealer-applied pressure (including NADA lobbying), most lenders now accept contracts with dates that are different from the titling documentation. In addition, most manufacturers base incentives on the RDR date and not the contract date, thereby eliminating the temptation to backdate a contract when, for example, a rebate may no longer be available. Unfortunately, my experience has been that many lenders still base program availability upon the contract date and will not accept the earlier RDR or original delivery date. This may result in the dealership either having to walk away from the deal because it does not make sense financially (this assumes a proper election to rescind was made, of course) or absorb the costs associated with a rate buy-down or the unavailability of a lender’s incentive.
With respect to other documentation, I recommend California dealers rewrite, re-date, and re-odometer everything except the DMV documentation (i.e., RS, REG 262, etc.). That is, unless a new party is added to the retail installment sale contract and the vehicle was new when delivered originally. In this case, full unwind paperwork should be obtained and the vehicle should be resold as a used vehicle on a used car RS (in addition to rewriting all other documentation). (See VIN 2007-04, http://www.dmv.ca.gov/vehindustry/vin_memos/vin2007/vin04.pdf.) Other states will probably have different requirements, so be sure to consult with knowledgeable counsel on this issue.
Neither the Nelson nor the Rucker case involved lease contracts. There is no requirement under federal or California law to disclose any interest charged pursuant to a consumer lease. Of course, there are many disclosures that must be made on consumer leases, including, but not limited to: rent charges, depreciation charges, amounts due at lease signing, total of payments, base monthly payment and payment due dates. It would appear that none of these would be affected by the backdating of a lease. Moreover, the Rucker case did indicate that a rental charge could be imposed on a consumer if financing fell through. And, since a lease is quite similar to a rental agreement, at first glance it would appear that leases could, in fact, be backdated.
However, the Nelson case does inject a new twist, that being the single document rule. California vehicle leases are subject to a single document rule that differs from its retail installment sale counterpart. The lease single document rule is a bit more broad and applies to “all the agreements of the lessor and lessee with respect to the obligations of each party.” (Civil Code § 2985.8) So, the question is, does backdating a lease violate the single document rule? My personal opinion is that it does not. Nevertheless, dealers should seek the advice of knowledgeable counsel prior to deciding to backdate leases.
0% APR Contracts
Retail installment sale contracts with 0% APR financing do not match the criteria of either the Nelson or the Rucker case. In fact, the class that was defined in the Nelson case included backdated contracts that “involved financing at an annual percentage rate greater than 0.00%.” I believe it is safe to say that backdating a 0% interest contract does not involve the same problems associated with backdating a finance contract with an interest rate that is higher than 0%. This is true for the simple reason that if a customer is not charged any interest whatsoever, there can be no pre-consummation interest. In addition, the single document rule for retail installment sales requires a single document for all agreements “with respect to the total cost and the terms of payment for the motor vehicle, including any promissory notes or any other evidences of indebtedness.” (Civil Code § 2981.9) And, since the terms of payment and total cost of the vehicle are not impacted by backdating a 0% APR finance contract, there should be no single document rule violation if such backdating does occur.
Cash and One-Pay Deals
For various reasons, backdating cash and one-pay deals does not likely pose any real risk to the dealer. The most obvious of these reasons is because dealers do not typically charge interest on these types of deals (see 0% APR Contracts discussion above). In addition, the Truth in Lending Act does not apply to cash deals, nor does the single document rule (assuming a true “cash” deal, that is, green money or wire transfers).
NOTE: The single document rule may still apply to one-pay deals. Nevertheless, so long as no interest is charged to the customer, backdating a one-pay contract should not present a problem.
Neither the Truth in Lending Act nor the single document rule in California apply to vehicles purchased primarily for other than “personal or family purposes.” Therefore, vehicles purchased primarily for business or commercial purposes may be backdated so long as the parties agree to do so. Along these lines, be sure the “business or commercial” box on the retail installment sale contract is checked.
There is still some uncertainty in this area, however, dealers may want to develop, along with knowledgeable counsel, a policy with regard to the proper dating of finance contracts and the handling of rewritten paperwork in general.
If you are still backdating purchase contracts, you are simply playing with fire. Granted, under some backdating circumstances, the APR may still be accurate enough to pass regulatory muster (meaning that the error is within the Regulation Z tolerance threshold of 0.125%). However, it is risky to assume this and calculating the actual APR on a backdated contract is not easy. Therefore, cautious dealers should not backdate purchase contracts.