A straw purchase is a type of fraudulent, and thus, illegal, transaction that is sometimes used by people with bad or no credit to obtain auto financing. A straw purchase for a car is an agreement where an individual who is unable to buy a car uses another person (the straw purchaser) who has better credit to apply to purchase the car, take initial possession of it, and subsequently transfer it to him or her.
The straw buyer never intends to pay for or be the primary driver of the car. Instead, the primary driver of the car makes monthly payments to the car dealership to settle the loan in the straw purchaser's name.
Straw purchases can be initiated either by the prospective car buyer or the dealership. At face value, they may seem like convenient arrangements for people who cannot secure car loans because of their bad credit.
However, regardless of the intentions of the parties involved, straw purchases are illegal and both customers and dealers should avoid them.
In many cases, especially if auto dealers initiate them, straw purchases turn out to be scams.
Customer-Initiated Straw Purchases and their Risks
A straw purchase is not the same as purchasing a car with a co-signer, but applying for credit with a co-signer is a good alternative for folks with damaged credit or lack of credit history. A straw purchase becomes illegal if a borrower takes a loan on a car in his or her name and does not reveal that the car will be in the primary care and control of someone else.
A car loan contract is also illegal if the buyer uses someone else’s information to secure the loan. In either case, the person whose name appears on the contract bears all financial and legal consequences that arise if no monthly payments are made for the car or if the car is damaged, stolen, or used for illegal purposes.
A buyer with bad credit does not see an improvement to their credit score if they use a straw purchaser. If anything, the person with the bad credit is taking a risk because despite making monthly payments for the car, he or she may lose the car if the straw purchaser decides to take ownership of it. If this happens, the person with bad credit has no legal recourse because the finance contract is in the name of the straw purchaser.
Consumer-initiated straw purchases are equally risky for car dealerships. If a bank or other lending institution realizes that the person whose name is on an auto loan contract has no intention of servicing that loan, it will consider it a violation of its agreement with the dealership. This violation may negatively affect the relationship the bank has with the dealership.
Dealer-Initiated Straw Purchase Car Scams
A dealer-initiated straw purchase scam may unfold in one of two ways.
In the first scenario, a dealer convinces you -- the buyer -- with bad credit to get a co-signer to help the buyer qualify for an auto loan. The dealer knows that regardless of the strength of the credit rating of the co-signer, no financial institution will approve your loan if you have bad credit. When you show up with your co-signer, the dealer then explains that if both of you are on the purchase contract, you will incur high-interest rates and pay exorbitant monthly fees.
The dealer may then try to get you to drop your name from the contract and have the name of your cosigner on it. If this happens, the dealer just coerced you into getting a straw-purchase car.
In the second scenario, the dealer sells the car to your co-signer without your knowledge. The dealer may hand you and your co-signer several sets of paperwork and have you sign separate contracts at some point. He or she may explain that you will need the extra paperwork to get the loan approved. Afterward, the dealer may intentionally leave out the paperwork you signed and use your co-signer’s paperwork to process the loan.
You may not realize until after a few months — when your co-signer gets the first monthly bill—that you are not on the purchase contract.
How to Avoid Dealer-Initiated Straw Purchase Car Scams
Though relatively rare, an auto dealer desperate to make a sale can cook up numerous schemes to push you into a straw purchase. Your first line of defense is to arm yourself with information. Check your credit score from Equifax or any of the other credit bureaus and take a copy of your credit report to the dealership when you decide to buy a car. This way, you know the auto loan and interest rate you qualify for and can tell if the dealer is trying to mislead you into a bad deal.
To avoid falling victim to the second kind of dealer-initiated straw purchase scam, ensure your co-signer is with you when the auto dealership draws your auto loan paperwork. Pay close attention so that you are not signing separate or modifiable contracts. You should sign on the same contract as your co-signer, and the contract should have a separate, clear-marked signature line for your co-signer either beside or below yours.
To be sure you get what you signed for, ask the dealer to show you the letter approving your loan as soon as it comes in. If you have a co-signer on your contract, the letter from the lender should have both your names on it. If it does not, you should consider terminating the contract and seeking legal redress.
Alternatives to Straw Purchases
No matter how desperate you are to obtain vehicle financing, making an illegal straw purchase deal is not the way to go. Instead, consider finding a suitable co-signer. A co-signer is a family member, friend or other person with good credit who co-signs loan documents on the car loan and assumes responsibility for settling the loan if the primary borrower defaults. The co-signer does not need to have an ownership interest in the purchased car. If the co-signer jointly owns the car with the primary borrower, he or she is considered a co-borrower and the contract is still legal.
Additionally, if you have poor credit or some other unfavorable credit situation and are unable to obtain a bad credit car loan, then a buy-here-pay-here car dealership can be particularly beneficial in putting you behind the wheel of a certified pre-owned or used car. These car dealers don’t usually check your credit but instead finance the purchase themselves, so you pay them, not a finance company, credit union or bank. It is generally an easy matter to qualify with most buy-here-pay-here lots, since they have low requirements for approval. If you have a job and a checking account (and typically, a down payment or trade-in), you can drive away in the car of your choice.
The Bottom Line
When it comes to car buying, nothing good can come of a car straw purchase. Instead, buyers often find themselves in legal hot water. Make sure that all aspects of your car purchase are within the legal realm and you don't put yourself or your liberty at risk.