In my article the other day about the deal I got on a new computer despite my immediate need, I neglected to mention something important: I refused the extended warranty that the salesperson offered numerous times. Any extended warranty is almost always a bad deal.
When I was a teenager, I had a short-lived job at a ubiquitous electronics store; let’s call it “Transistor Hut.” This was the only job in retail I ever had, and I can’t say I was a fan. Our bonuses were determined by our success in selling the “TSP,” an extended warranty. Let’s say that stands for the “Candy Service Plan (with a T),” and I don’t know whether this is still in existence.
Banking Deal: Earn 1.20% APY on an FDIC-insured savings account at Barclays.
The price of the TSP depended on the price of the item, and TSPs were available for almost every product. If you buy a $19.99 pair of headphones, you could spend another $9.99 for unlimited replacement, no questions asked (other than your phone number). If you buy a $299.99 DVD player, $79.99 (or so, keep in mind this was fifteen years ago) would allow you to bring the broken device into the store, have them ship it to a repair facility, and fix or replace it. That’s a process that would likely take several weeks.
The TSPs and any other store’s extended warranties are pushed hard by salespeople because they are often rewarded for them, and they are rewarded because they are very profitable for the store. Most people who buy the warranty will not use it, so the funds become significant income for the company.
Most credit card companies automatically double the manufacturer’s warranty on products purchased with the card for up to one additional year, so that automatic, free protection is often more than enough. Check your credit card’s terms to see if this is available to you. I knew it was available to me on my American Express Blue Cash for Business Card when I purchased the new desktop computer for Consumerism Commentary’s multimedia production.
Perhaps a smarter way to deal with the possibility of broken items — besides not buying anything — is to self-insure. Rather than spending an extra $50, $300, or $2,000 for an extended warranty depending on the product, put that amount into a new savings account designated for your own personal warranty extension. Do the same for all the products you buy for which a salesperson attempts to sell you the extended warranty. What you have created is a pooled funding source for repairs. It is unlikely that all of your products will break or stop functioning, so you can withdraw from this fund to pay for repairs for the one item that fails.
With this strategy, you keep all your money if nothing goes wrong, and if the money is sitting in a high-yield savings account, it’s working for you rather than lining the pockets of major retail chains.
Here is the step-by-step process.
Step 1. When you purchase an item, make note of the cost of the extended warranty. Don’t buy it.
Step 2. Transfer this amount to a special savings account that you will not touch until one of your “protected” items needs to be repaired. ING Direct lets you create sub-accounts, one of which you can name “My Extended Warranties” or “Warranty Fund.” Don’t create a sub-account for each item. One for all of your items will do. Thus, the “Warranty Fund” is pooled.
Step 3. Repeat steps 1 and 2 using the same Warranty Fund you already created for all products you buy that might break or are associated with an extended warranty. This will build up a sizable Warranty Fund in your own name at your own bank earning interest for you.
Step 4. When one of your self-insured products breaks or otherwise needs repairs, dip into your Warranty Fund. Try to avoid using your Emergency Fund unless the Warranty Fund doesn’t cover the full expense and the product must be fixed or replaced.
The strength here is that you are pooling your own funds. This is what the retailers do to ensure warranties bring significant profits to the company. Just like not every customer will take advantage of their purchased extended warranty, not every product you self-insure will break unless you are extremely unlucky or extremely careless. In addition, the best benefit of self-insuring is that you will never have to argue with a store representative about whether certain type of damage is “covered.”
Updated October 21, 2015 and originally published October 15, 2009.