Some car buyers are being charged up to £1,000 more than they should when they purchase a car on finance, the financial regulator was said.
The Financial Conduct Authority (FCA) said consumers were collectively paying an extra £300 million a year on their finance because dealers are allowed to set their own interest rates.
It means dealers are unnecessarily charging higher interest rates in order to boost their commission.
Jonathan Davidson of the FCA said: "We found that some motor dealers are overcharging unsuspecting customers over a thousand pounds in interest charges in order to obtain bigger commission payouts for themselves.
"We also have concerns that firms may be failing to meet their existing obligations in relation to pre-contract disclosure and explanations, and affordability assessments.
"This is simply not good enough and we expect firms to review their operations to address our concerns."
The FCA has been investigating the car finance industry since April 2017 following a surge in car purchases through finance and loans.
It said until it establishes industry-wide rules, it will deal with individual dealers on a case-by-case basis.
The finance industry trade body, the Finance and Leasing Association, hit back at the FCA's findings, saying it is "based largely on out-of-date information, and therefore does not reflect the very considerable progress the market has already made in moving away from such structures".
Around 80% of all car finance purchases are done through a Personal Contract Purchase, or PCP. It allows customers to lease the vehicle for a number of years before having the option to pay the remaining value of the car to own it, return the vehicle or roll over the residual value to a new PCP plan.
