By Andrew Housser
In the hubbub of the holiday shopping season, it is easy to get talked into paying extra for an extended service plan for a product that you may not truly need. There is a reason retailers push these plans. Warranties are money-makers for them. In fact, each year, consumers spend more than $16 billion on extended warranties. Occasionally, the peace of mind that comes with this extra protection is worth the cost. More often, however, extended warranties are not good uses of your money. Here is a look at when it does -- and does not -- pay to purchase a protection plan.
1. Mind the motive.
Because warranties are so rarely needed, a retailer's profit margins on warranty programs run as high as 40 percent to 80 percent. The odds that you will actually use a protection plan are slim. For starters, most products come with some type of manufacturer's warranty. Even if this warranty has expired, extended warranties tend to have numerous exclusions for certain parts and services. Your extended protection plan still might not cover the cost of fixing the problem. Retailers also bank on the notion that you will forget you purchased the warranty or will not be able to find the warranty information when it is needed.
2. Weigh the risk.
Information collected by Consumer Reports shows most products fail after the extended warranty is expired. Of course, there is always a small chance that you will need that insurance within the set timeframe. You must calculate the risk ratio when deciding whether or not to dole out extra dollars for a warranty that you may never need. In general, it's a smart idea to say "no thanks" if the warranty fee exceeds 20 percent of the item's purchase price. A costly warranty deal like this is could easily be more than actual repair charges.
3. Consider the product.
Certain products, such as computers, are more likely to need repairs within the first three years of purchase. Other electronics, like digital cameras, are less inclined to break. With technological advancements, it is highly likely that the computerized devices you purchase today will be obsolete by the time you need the warranty. Upgrading to a newer, improved model may make more sense than paying for a repair. That said, if you are buying high-priced items such as a washer and dryer or a plasma television, an extended warranty can be a wise purchase. It may help if you think of extended warranties as extra insurance. You may never need to use it, but knowing that you are covered in the event of a breakdown can be reassuring.
4. Read the fine print.
Before buying a warranty, make sure you know what parts and repairs are covered, under what circumstances the coverage applies, and whether you have to deliver the product to the retailer or ship it to another location for repair (and pay for the shipping costs). Find out if the extension starts after the manufacturer's warranty expires. If not, a three-year extended warranty would really only give you two additional years of coverage on top of an existing standard one-year warranty.
5. Check your credit card.
Certain credit card companies automatically extend the manufacturer's warranty when you purchase an item with their cards. Gold and platinum cards almost always offer this extension, but some standard cards also have this perk. You will need your receipt and original manufacturer's warranty to claim this benefit.
6. Think it over.
You should not feel pressured to decide on a warranty when making a purchase. Many retailers give you 30 days after the purchase to buy the extra coverage. Ask your sales associate about the store policy on warranty purchases.
The bottom line is extended warranties are effectively very expensive insurance policies. In general, it doesn't make much sense to buy insurance (especially expensive insurance) unless the item you are insuring would cause an economic challenge if it breaks. Make sure that you make your decision on an extended warranty after spending some time weighing the pros and cons and comparing its costs to the actual cost of a repair or replacement. Remember, in the end, the decision whether to buy or not is yours to make. Do not let a salesperson make up your mind for you.
Andrew Housser is a co-founder and CEO of Bills.com, a free one-stop online portal where consumers can educate themselves about personal finance issues and compare financial products and services. He also is co-CEO of Freedom Financial Network, LLC providing comprehensive consumer credit advocacy and debt relief services. Housser holds a Master of Business Administration degree from Stanford University and Bachelor of Arts degree from Dartmouth College.