Friday Mythbustin': The Extended Warranty

A few weeks back, a post about how I took advantage of I took advantage of my own stupidity when I'd bought an extended warranty. Using it now, I was able to get my old video camera working again.

Well, it turned into a celebration of all things warranty. We all posted about great things that happened when we got the warranty from one place or another. That, together with the enthusiastic endorsement of the person trying to get you to buy the extended warranty, may lead you to wonder why I even said in that post that warranties are usually a bad bet.

So, I thought I'd clear it up.

Warranties are insurance.

Insurance is a way of making things more expensive.

For example, we as Americans pay more for health care than what health care actually costs. This is because most doctors are not actually paid directly--they're paid either by an insurance company or the government. Which means that we not only have to pay for the salaries and equipment of the people in the doctor's office, but also for the salaries and equipment of the people who work at the insurance offices or the government buildings who process all of this money and these payments.

But what we do is put our money in a big pool and gamble, collectively, that we'll be the one it pays off for and that we'll get more out of it than we had to pay into it.

Now in the case of health care, it's obviously a necessity. The mere existence of the insurance industry has caused the prices to get so high that a medical crisis without insurance would bankrupt nearly anyone.

But for smaller things, odds are against you. Consider this quote from Dave Ramsey:

When you buy an extended warranty, you're covering commissions, overhead and profit. Thirteen percent of what you're paying for an extended warranty goes toward actual repair costs. If you'd set that amount aside, you could cover that average repair expenditure on your vehicle. The remaining 87% of what you are paying is going toward the warranty company's marketing costs (commissions and sales expenses) and profit. Extended warranties are extremely profitable for those selling them and a terrible deal for those buying them.

In other words, statistically speaking, you're only going to use that warranty 13% of the time--about once for every ten items you purchase. Those are horrible odds! A Vegas game with odds like that would be ignored even by the dimmest of casino goers.

Instead of shelling out money to these folks for each purchase you make, create a well-stocked emergency fund of your own. If the statistics hold true, your dollars will go almost eight times as far as if you'd paid them to take care of it.

And, don't underestimate the value of good old fashioned customer service. Use the regular warranty as often as is necessary. More products than you think actually have "lifetime warranties" on them. Also, many stores--like Wal-mart, dreaded as they seem to have become--have very liberal return policies as long as you're trading for merchandise rather than getting cash. As my cheapie Wal-mart VCRs have broken down quickly, I've just returned them and shelled out a couple more bucks for a slightly nicer model. I've done this a couple of times, until I finally got one that's worked fine for me.

So, use the customer service programs that already exist in the store, set up an emergency fund, and, in most cases, do a Nancy Reagan on anybody who pushes the extended warranty at you--just say no.