Which auto accessory would you guess makes the most profit for car dealers? MP3 player? GPS system? 6-way electric seats? How about the accessory most car buyers hope they’ll never actually use . . . and seldom do? Extended service contracts are the bread and butter for many dealers. Recently, Christina, a friend of The Consumer Gal (i.e., my wife) purchased a Honda SUV. She paid an additional 14 hundred bucks for a warranty that extended coverage to 7 years or 70,000 miles, whichever comes first.
Hondas are among the most reliable vehicles on the planet. And Honda’s frequency of producing lemons is close to nil. I suggested to Christina that she return to the dealer and cancel the extended warranty. She followed my advice and used the 14-hundred-dollar refund to reduce the principle on her car loan. Smart move. I have been told – but I don’t have the stats to back it up – that economy car dealers often make more profit from extended service warranties than from selling the cars themselves.
Let me introduce a concept I call "Self-Warrantying". Then I’ll explain when, where, and how to use it. When you buy a car, a refrigerator, a TV set, a camera, or any other device that involves technology – the salesperson will likely ask if you would like to purchase an extended service contract. Ask how much the extended protection costs and if there is a deductible (or copayment) for service. Then politely decline the offer. With automobile salespeople, you may have to go beyond being polite. They can be tenacious.
When you get home, take the purchase amount of the contract you declined – and the amount of one copayment – and put it into an investment account. I would suggest a conservative no-load index mutual fund. Each and every time to make such a purchase, follow the same procedure, adding to the account as you go. Watch your savings grow and, if an item should need a repair during the period of time covered by the extended warranty you turned down, take the money out of your investment account and pay for it. If you make it a habit to purchase reliable brands to begin with, you will watch your money grow steadily.
How does this work? Let’s use Christina’s new SUV as an example. The vehicle came with a standard 3-year, 36,000-mile warranty. The 14 hundred dollar extended contract covers only those repairs the vehicle would require after 36 months or 36,000 miles and before the odometer hits 70 thousand miles (or 7 years). Christina thought that was a good deal because her brakes were sure to wear out and need replacement during that period. Ah-ah. Extended warranties rarely, if ever, cover so-called wear-and-tear items. Not brakes, not tires and not items you damage. The odds that her car would need a covered repair during the term of the contract are slim. And even if it needed repairs, what are the chances that the cost of repairs would exceed 14 hundred bucks? Lower still.
Consumer Reports magazine has a feature I love. It shows the frequency-of-repair records for items it evaluates. They include appliances, electronics, and automobiles and light trucks. The annual April issue is dedicated to new and used vehicles. Look for the most reliable brands when you shop. I always pay with a credit card, except for cars. Why a credit card? Free extended coverage, that’s why. It amazes me how many consumers don’t realize all the free benefits that come with gold or platinum Visa and Master Card credit cards as well as American Express and Discover cards. They almost always double the manufacturers’ warranties that come with any item you buy using the card – up to one additional year (caution: read the card agreement for details and restrictions). They do not, however, cover motor vehicles. I have actually taken advantage of that benefit three or four times over the last couple of decades and it was a snap each time.
Some families purchase new vehicles every few years. And even if you purchase a used car, you can shop smart and get a reliable vehicle or a manufacturer-certified used vehicle that will allow you to skip extended service contracts as well. Think of the amount of money you will save over the years!
When I purchased a minivan in 1996, I resisted the salesperson’s extended warranty pressure and put $675 into an index fund. By the time the five-year contract would have been up, the mutual fund’s value was almost 14 hundred dollars. All the repairs it did require surfaced during the original manufacturer’s warranty period.
Here is the exception to the advice above. If you don’t pay off your credit cards in full each month, I don’t want you adding to your debt. And credit card debt is among the worst (as in most expensive) of all. I used to be okay with extended service plans for computers because they so frequently require tech support or repairs. But what I have discovered is that , if you buy a reliable brand (check out Consumer Reports reliability rankings in their most recent article on computers), the odds of needing a repair are fairly low and the cost for tech support — typically 40 bucks a pop for each instance, or problem – the odds are you will spend more for the extended warranty than for a la carte support. And if you can find a computer at Costco that meets your needs, they throw in tech support for as long as you own your computer.
Consumer Guy Tip: Pay off your credit card debt first. Avoid new purchases as much as possible until you’re out of debt. Transfer all your debt to one card that has the lowest interest rate. If your cards are maxed out, pay off the ones with the highest interest first, paying the minimum on the rest. Close the accounts as you pay them off until you have just one or two accounts. Then follow the above advice to extend the warranties on new purchases. Buy cars that are reliable and skip the extended service contracts.