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About a year after buying a flat-screen TV from Best Buy, a member of Consumers' Checkbook’s staff received the following email:

WATCH YOUR BACK. YOUR MANUFACTURER'S
WARRANTY IS ABOUT TO EXPIRE.

Never fear. You're now eligible to cover your product
with comprehensive Geek Squad Protection.

The email went on to assure her that buying a “smart” and “affordable” protection plan for $129.99 for two years or $179.99 for four years is “the best way to avoid costly repairs down the road.”

Our colleague managed to keep panic in check and declined the offer. But consumers waste billions of dollars on extended warranties (also referred to as “protection plans”) each year. The retailers that sell them increasingly count on the sales of extended warranties for most—or even all—of their profits. No wonder when you buy a new TV, appliance, camera, cell phone, or dozens of other types of products you almost have to fight your way out of the store to avoid buying one of these contracts.

Extended warranties are a good deal for the stores that sell them and for the companies that administer them and pay the claims—but a bad deal for you. On average, more than half of the selling price of these warranties goes to the retailers that sell them; much of the rest stays with the companies that back and administer them, and less than 20 cents of every dollar taken in actually gets paid out in claims.

In 2005, about a third of Best Buy’s profits came from warranty sales, which carried profit margins of roughly 50 percent, as opposed to margins of just a few percent for many of the products covered by the warranties. That was the last year Best Buy reported details on the profitability of extended warranties. No wonder: Some analysts estimate that all of Best Buy’s profit now comes from the sale of extended warranties.

Many products are very reliable, and those that do break down—especially electronics products—are likely to do so right away, while still covered by the manufacturer’s warranty. NEW Customer Service Companies, the outfit that administers many retailers’ extended warranty contracts on electronics, boasted that its clients sold over 35 million contracts in 2006 but only 5 million service and replacement claims were processed—less than one claim for every seven contracts. In marketing materials for its extended warranties, NEW tells retailers: “Not only are they easy add-on sales that generate instant incremental margin, but NEW [extended service plans] are proven to reduce returns and drive repeat business.” Given how lucrative extended warranties are, NEW’s pitch to stores is considerably understated.

The key point is that extended warranties are insurance policies. But unlike auto, homeowners, health, or life insurance, they insure against relatively small losses—potential repair or replacement costs—and pay out claims that represent a relatively small portion of what they take in.

Because an automobile accident, or a house fire, or complex medical care can have catastrophic financial consequences, it makes sense to insure against these perils. But since an insurance policy on a TV or refrigerator or computer protects you against repair costs of only a few hundred dollars, you need to ask yourself: Even in the very unlikely event that you have to throw out the product, would the loss of the product’s full value be a financial catastrophe? If not, don’t waste your money on such a policy.

Knowing all this, if you are still thinking about buying an extended warranty, consider the following:

  • Many credit cards double the length of a manufacturer’s warranty on products you buy with the cards. Most TVs and appliances come with one-year manufacturers’ warranties; paying for the product with a credit card that has this feature extends that warranty for one year for free. But be sure to read the provisions before relying on these credit card benefits. A common requirement to claim benefits, for example, is that you have to provide full documentation of the purchase, including a copy of a credit card receipt. (That credit card companies give this coverage away is further evidence that extended warranties sold by stores are not worth much.)
  • Consider buying at Costco. Costco for free extends the standard one-year manufacturer’s warranty on its TVs, computers, major appliances, and some other types of products to two years. (You have to be a member—currently at a price of $55 per year—to buy these products or a warranty on such products at Costco.)
  • You don’t have to purchase an extended warranty at the time you purchase the product. You usually can purchase coverage up to 60 days after buying an item, and some stores allow you to buy coverage until just before the manufacturer’s warranty expires. So give yourself some time and distance to consider your decision—and to see whether the item has any obvious flaws.
  • You will find big price differences for similar warranty coverage. The table below show prices for extended warranties for a typical Sharp LCD HDTV and a Whirlpool refrigerator. For the TV, we found a wide range of prices, with Costco the clear price winner. At the time of this writing, Costco wasn’t selling extended warranties for large appliances, but we still found considerable price variation among stores that did. For example, the price for a four-year warranty on the refrigerator at Lowe’s was less than half the price for a three-year warranty at Best Buy and less than one-quarter the price for a four-year warranty at Sears.
  • You don’t have to buy an extended warranty from the store that sold you the product. Several companies sell warranties for products purchased elsewhere. So if you know you’ll buy an extended warranty, shop for the best total price for both the product and the warranty, and take into consideration that you might buy them separately. Similarly, if you stumble across a great deal on an item you want, and you know you want to buy a warranty for it, consider whether you’d save by buying the warranty from the store offering the bargain or from a different seller. On the tables below, prices shown in color are for extended warranties that can be purchased for products bought elsewhere.

Be sure to read all the fine print. Important selling points of some warranties are virtually meaningless. For example, Best Buy’s coverage plan promises to replace a product if it can’t be repaired or requires more than four repairs. You have to drill down into the legalese to find out that the replacement can be a refurbished or rebuilt unit. And if your toddler drops your phone in a commode, be aware that many cell phone replacement plans don’t cover immersion (although Costco and SquareTrade warranties do). Also check—

  • How long does the warranty last? Extended warranties don’t kick in until manufacturers’ warranties expire. For the TV shown in the table to the left, Best Buy sells an extended warranty that it says offers two years of coverage for $129.99—but the clock on the two-year warranty starts on the date you buy the TV. Since the manufacturer provides a one-year warranty, you’re actually paying $129.99 for only one additional year of coverage.
  • Does the contract cover in-home service? You probably won’t want to lug your 60-inch plasma TV across town.
  • Are common repairs covered? If a contract for a TV does not mention replacement of burned-out lamps or bulbs—a common repair—it’s probably not covered.
  • Is there a deductible? No sense in paying $100 for an extended warranty that comes with a $50 deductible for a cell phone that costs $200—you’d pay $150 for the warranty and deductible to get reimbursed $200 in the unlikely event that your phone has to be replaced.
  • What repair companies can you use? Even if the warranty pays for it, you don’t want to deal with a lousy shop. Unfortunately, many retailers’ warranties lock you in to having repairs done by the seller’s own shop or a designated facility. In many cases, that’s bad news. For example, Best Buy gets some of our lowest ratings for repair services. Ditto Sears and other big chains. Getting repairs done by these services might be a hassle—and might still result in a malfunctioning product. Independent shops tend to score much better.

Extended Warranties Offered by a Sample of Sellers
for a Sharp LCD HTDV Priced from $900 to $999.

Warranties shown in blue can be bought from the seller even if you purchase the product at another store

Store 1-year extended warranty 2-year extended warranty 3-year extended warranty 4-year extended warranty 5-year extended warranty
Abt   $109.99 $149.99    
Amazon   $109.99 $134.99   $165.99
Best Buy $129.99   $179.99    
Costco $0*   $59.99*    
Crutchfield   $109.99 $164.99    
Dell $79.99 $139.99      
hhgregg   $179.99   $249.99  
J&R   $159.99   $299.99  
SquareTrade   $109.99 $149.99    
Target   $79.99      
Wal-Mart   $65.00 $99.00    
Costs shown are for plans available online on December 13, 2011. We have listed plans according to the number of years they cover the product after the one-year manufacturer’s warranty has expired.
* TVs purchased at Costco automatically receive a one-year extended warranty for no additional charge; therefore, customers who buy three-year extended warranties get five years of coverage.

 

Extended Warranties Offered by a Sample of Sellers
for a Whirlpool Refrigerator Priced from $1,800 to $1,999.

Warranties shown in blue can be bought from the seller even if you purchase the product at another store

Store 1-year extended warranty 2-year extended warranty 3-year extended warranty 4-year extended warranty 5-year extended warranty
Best Buy $229.99   $369.99    
Costco $0*        
hhgregg   $139.99   $179.99  
Lowe’s   $89.97   $149.95  
Sears   $436.99   $632.49  
SquareTrade   $149.99      
Costs shown are for plans available on December 13, 2011. We have listed plans according to the number of years they cover the product after the one-year manufacturer’s warranty has expired.
* Costco does not sell extended warranties for large appliances; instead, it lengthens manufacturers’ warranties to two years.