Extended Warranty Option
Will an extended warranty make sense for me?
Overview
Car dealers and some lenders will highlight this instrument is a great hedge for the consumer to ensure that their car will be service adequately through the extended time-frame, presumably at a better value. It is like a type of insurance. Pay now for potential repairs that you might need in the future, but you ostensibly pay at a discount.
Extended warranties are not worth buying.
In our opinion we think that buying extended warranties on your vehicle doesn’t make financial sense.
It is no secret why these extended warranties are pushed so heavily to consumers. They are very profitable. At my previous company, we would sell warranties along with car refinance loans too because they were very profitable. As for the auto dealer, in some cases, they can sometimes make more money off of the warranty than selling the car.
The Wall Street Journal recently reported that 34.4% of new-car buyers bought extended warranty plans in the first half of 2009, according to the National Automobile Dealers association. This represents an increase in purchasing these plans by 20%+ since 1999. Many car dealers make very little money (or lose money) with each car sale, so they naturally look for ways to make money. Warranties are an excellent conduit to do just that. The profit margins on extended warranties are extremely high, which is why your salesman will do his noble best to sell it to you.
The rationale to buy a warranty is “I’m going to keep this car a long time. If I prepay for service now, then I will be able to get a better price for future repairs and regular maintenance.” However, the vast majority of car-buyers hold on to their cars for 5 years or less – opting to upgrade or buy a different car because their needs have changed. The value of the extended warranty is totally negated in these instances.
A Consumer Reports survey that was conducted a few years ago about car warranties, which polled 8000 people, had some interesting results. 25% of the respondents purchased a warranty. Of that group, almost 2/3rds of those people spent significantly more on the warranty than they actually received in maintenance savings. Respondents indicated that warranties cost $1,000 on average that provided benefits of $700. Therefore, those warranties net an average loss of $300. What’s more is that astounding 42% of extended warranties were never used! For those respondents that results in an average loss of $1000! Only 22% of respondents reported that they experienced a net savings.
In my own experience, I’ve spent $1000 for an extended 5-year warranty on my car, which I now regret. My car is quite reliable and has not had any major problems. I’ve yet to make any substantial repairs to the car during the extended warranty period and have essentially thrown that money down the drain. I would have been better served by taking that money and putting into a conservative money market account.
When would it make sense to buy a warranty?
If you are buying a car with an unreliable maintenance record, then maybe you ought to consider getting an extended warranty. However, I’d caution you to stray away from buying a vehicle that inherently require a lot of maintenance or has a spotty repair track-record. Those kinds of cars are a money pit. There are too many good cars on the market to accept mediocre mechanical durability.
However, if you spot a used-car at a good value, then you might consider buying a warranty to protect yourself.
