Should You Over Extend Your Budget for an Extended Warranty?
An extended warranty is available on almost every conceivable electronic device or mechanical item you purchase. These warranties kick in when the manufacturer’s warranty expires. You can also purchase warranty coverage for major systems and infrastructure in your home, new construction or existing. In short, everything from microwave ovens, to laptops, to new or used vehicles, to your plumbing can be covered by an extended warranty.
The question is: Are they worth it? I am not going to answer that question. Instead, I am going to share some facts with you and let you answer that question yourself.
Service Contracts and Extended Warranties
The first thing you need to understand is that a service contract and a warranty is not the same animal, even though the terms are commonly used interchangeably. The differences are technical but very important to the consumer.
A warranty has two components: 1) a statement made by the seller or manufacturer that the purchased item is free from defects in materials and workmanship and 2) that within a specified period of time; any defect in material or workmanship will be repaired or in some cases, replaced for free.
A service contract is not a warranty! The service contract is actually an insurance policy that pays for replacement or repair under the conditions defined in the service contract’s fine print. If you do not meet these conditions, you may not receive any benefit from the service contract provider.
Who Regulates Service Contract Providers?
Because service contracts are insurance products, they are regulated by each state’s Department of Insurance. Insurance regulations vary from state to state and although there is a great deal of similarity in the regulations among the states, there may also be significant differences. The financial strength of the service contract provider must meet certain minimums to comply with the state’s regulations, however, this is no guarantee that the company backing the service contract will not fail, file bankruptcy or otherwise cease to exist.
In short, your service contract is no stronger than the providing company. The irony here is that you are trying to mitigate your purchase related risk through a service contract, but there is precious little protecting you from the risk that your provider will go out of business!
Time Value of Money
Most service contracts are purchased concurrently with the product, yet the potential benefit is months, or in the case of a vehicle, even years into the future. While this may not be significant in the case of a toaster oven, a vehicle warranty can run many hundreds of dollars.
You need to understand that this money is not working for you but to the benefit of the service contract provider. It is an interest free advance to the provider for which you receive zip, nada, nothing! Worse yet, you may be financing the cost of the service contract along with your vehicle, further exacerbating your financial loss.
Is it Practical?
Most of us are sharp enough to recognize that it isn’t very practical to spend $45 on a service contract for a $90 purchase. Let’s be honest, if your microwave stops working, it isn’t going to be a life-changing event. The rubber meets the road on major purchases such as an auto or a home.
However, the fact that these are big ticket items does not automatically mean they should be awarded a service contract. There are multiple factors to consider. Here are just a few:
- New car manufacturer warranties can be six years or longer. You may not keep your car that long or it might be stolen or totaled in a collision before the service contract is in play.
- Virtually all service contracts exclude repair or replacement of routine maintenance items such as brakes, oil changes, tires, etc. This leaves only major components like engine and transmission repairs. Almost always there is a deductible involved, not to mention an array of preventative maintenance preconditions that must be met to file a successful claim.
- Many service contracts limit your choice of repair shops to those approved by the service contract provider.
- The service contract is written in a manner to protect the service contract provider … not the consumer. For example, the service contract specifies that it will repair/replace internally lubricated parts providing all seals and gaskets remain intact. This is known as an “escape clause” and virtually guarantees that the service contract provider will never pay you a cent. If your oil pan gasket leaks and your engine throws a rod, the service contract provider will not have to pay for the repair because the oil pan gasket was not “intact.”
Service contracts for homes have many of the same characteristics and pose similar risks to your financial health.
What have you decided about service contracts and warranties? Do they represent real value … real peace-of-mind to consumers? Have you had any noteworthy experiences with a service contract or warranty?