Extended Warranty vs. Auto Extended Service Contract
A service contract is a promise to perform (or pay for) certain repairs or services. Sometimes called an "extended warranty," an extended service contract is not a warranty as defined by federal law. An extended service contract may be arranged at any time and always costs extra; a warranty comes with a vehicle and is included in the original price. The separate and additional cost distinguishes an extended service contract from a warranty.
In most states, the extended warranty is not considered insurance and is not regulated by the insurance department. It is simply a contract between the dealer and the car buyer and is covered under contract law. On the other hand, an Extended Service Contract Reimbursement Policy (SCRIP) is considered insurance by most states and is regulated by the various insurance departments). If the dealer chooses to sell an independent Third Party Administrator Extended Vehicle Service Contract (VSC), the dealer needs to assure himself that the TPA will be there to fulfill the promises made to the consumer. The consumer also must satisfy himself that should he move from the area or the dealer goes out of business, covered repairs wilt still be made. The TPA must therefore show that he is secure; most TPA's, through an insurance company, therefore provide a SCRIP to the dealer. This SCRIP provides a guarantee to the dealer and the consumer that if a covered repair is necessary it will be done, either at the selling dealer or at an authorized repair shop.
Buying An Extended Service Contract Online:
Beware of online marketers promising extreme discounts. Online marketers often claim discounts of 60% off dealer costs. The reality is that the cost of distribution through the dealer has been replaced with the cost of distribution through the internet. While this may result in a net savings to the consumer, it is unlikely that it would reach a 60% discount. What is more likely is that the online warranty provider is either not pricing his policy to accommodate the underlying risk of loss or that he has introduced restrictions in the policy to reduce that risk of loss.
The industry publication Warranty Week suggests: "It is our opinion that extended service contracts should not be bought from dot-com companies that won't publish their physical address or the names of their executives." While it is possible this occurs, it is more likely that the consumer interacts with a common type of site known as a "lead generation" site. This site collects consumer information and passes it to the warranty administrator or, more likely, his authorized agent, who conducts the transaction.
Regardless of who is involved in the transaction, the most important thing for the consumer to keep in mind is who is liable for payments on the policy and how strong that company is. Ask who performs or pays for repairs under the terms of the service contract. It may be the manufacturer, the dealer, or an independent company. Many extended service contracts sold by dealers are handled by independent companies called administrators. Administrators act as claims adjustors, authorizing the payment of claims to any dealers under the contract. If you have a dispute over whether a claim should be paid, deal with the administrator.
Know:
- Who is providing insurance for the extended service contract and their financial position (AM Best). Per our discussion of Risk Retention Groups, know the risks associated with policies underwritten by these types of carriers.
- Know who is administering the service contract and know their financial position (AM Best) and reputation (BBB).
- Know who is selling the policy and their history with consumers (BBB).
Find out if the extended service contract is underwritten by an insurance company. In some states, this is required. If the contract is backed by an insurance company, contact your State Insurance Commission to ask about the solvency of the company and whether any complaints have been filed.
Dealer vs. Direct: That is the question
Fact #1: Most dealers provide extended service contracts from their respective manufactures. These extended service contracts are usually of high quality but in many cases are over priced when compared to like quality products offered from independent warranty providers. Dealers provide expertise and simplicity, which consumers generally benefit from, but pay a premium for that service.
Fact #2: Most dealers make considerable money on the sales of extended service contracts. In fact other than the vehicle itself an extended service contract is one of the largest profit producers in the dealership. In most cases dealer margins are close to 60% to 150% of the cost of an extended service contract.
Fact #3: The vast majority of extended service contracts are sold through franchised or independent auto dealerships. Most dealerships utilize a finance and insurance (F&I) department to market their aftermarket products. The personnel who operate these departments are experienced professionals who are compensated on the profit they make on every sale. It is usually in the finance manager’s financial interest to sell lower levels of coverage at shorter terms keeping his/her costs down and profits high. The lesson here is do your homework! Know exactly what you are getting for your money.
Do You Have Adequate Coverage?
If your vehicle is already under the full factory warranty, the warranty covers most categories of maintenance and repair, and if its coverage is in sync with how long you anticipate owning your vehicle, you do not need an extended service contract. For example, if you have just purchased a new vehicle, study the factory warranty. Chances are you are covered for most major repairs and even maintenance costs for 3 years or 36,000 miles. If you are only planning on keeping the vehicle for 2-3 years, you probably do not need an extended service contract. However, in the scenario above, if you are planning on keeping the vehicle for 3 years or plan on driving it more than 12,000 miles per year, an extended service contract may make sense.
Further, if you have purchased or plan on purchasing a used vehicle you'll need to check if there is adequate warranty coverage from the seller. Dealer coverage periods may range from no coverage “As-Is” to up to a year, or more. If the dealer is providing some level of coverage it may be very limited from a coverage stand point. Read the fine print. If you're buying a late-model used vehicle, it's possible that the vehicle's original full factory warranty is still in effect. Some manufacturers also offer "certified used" programs that extend original factory warranty terms on pre-owned vehicles. If the car isn't under warranty, or if you plan on keeping it past its warranty's expiration, buying an extended service contract may make sense.
If you plan to keep your vehicle for a longer period of time extending the original full factory warranty with an extended service contract may make sense. For example, if you have just purchased a new vehicle, and it comes with a 3 years or 36,000 mile full factory warranty, and you plan to keep the vehicle for at least 5 years and drive an average of 15,000 miles a year you will have no coverage after two and a half years of ownership. The best time to purchase an extended service contract is when the vehicle is new. Remember that with an extended service contract you are purchasing the additional time and mileage you need to cover you for your expected ownership timeframe.
Do You Need An Extended Service Contract?
This depends solely on you. All vehicles have mechanical failures, some big some small. You may be the type of person who rolls the dice and wishes for the best, or you may be the type of person who desires peace of mind. Either way a automotive extended service contract is just like your home or auto insurance policy – it protects you from the unforeseen. Consider the repair history of your car and other cars in its class. Though this is by no means a fail-safe way of predicting what your repair bill will look like, it does give you an idea of what you may be in for service-wise; bear this information in mind when making a warranty decision. Consider your likely costs. Hourly labor rates can top $130 per hour in some markets, and parts costs increase an average of 12% per year. Consider your ability to cover those repair bills.
Who Is Administering Claims Under The Contract?
First of all, carefully review the extended service contract you are considering. If the dealer or marketer can not immediately provide you with a complete copy of the extended service contract you are considering, eliminate them from contention. Administrators act as claims adjusters, authorizing the payment of claims to the service repair facility under the contract. If the extended service contract is provided by the manufacturer, it is acting as administrator. These extended service contract usually receive high marks for ease of use. Extended service contracts provided by a third-party often provide broader coverage at lower rates. If you decide to purchase a third-party extended service contract, make sure they are fully insured by a true “A” rated insurance company and have the financial resources to meet their obligations under your contract. After all, the ultimate measure of a warranty company is ensuring that your claims are paid quickly and easily.
Who Is The Insurer Of The Extended Service Contract?
Who is underwriting or insuring your policy is one of the most important aspects of an extended service contract. Adequate insurance guarantees your extended service contract will be there when you need it. The administrator is usually the obligor of your policy and adequate insurance makes sure that if they go out of business your claims will continue to be paid. Knowing who will be underwriting or insuring your policy can give you insight into the strengths and weaknesses of the contract you're considering.
Manufacture extended service contracts are not insured but instead backed by the good faith and assets of the corporation. If they go out of business the contract is null and void. Many states do not require third party extended service contracts to be underwritten by an insurance company. Regardless of whether your state makes it a requirement, you should consider making it a requirement. Find out if the primary insurer of the extended service contract has been rated by A.M. Best or Standard & Poor’s. This will give you an indication as to its ability to pay your claim should the administrator go out of business. A- ratings or above are an indicator of financial strength.
Risk Retention vs. Insured Products
Risk retention groups (RRG) came into existence in the U.S. in the 1980s as a way for those who could not find affordable insurance to join with others in the same situation. Companies join RRGs as members and contribute premiums. These premiums are used to insure the service contracts written by the group. Therefore, the RRG itself underwrites the policies issued by other members of the group.
RRG's often delegate the role of administrator to one of the members of the group. The administrator is responsible for structuring the service contracts and managing the claims against the assets of the RRG. In some cases, the role of the administrator and underwriter are performed by the same RRG member. People who went down the path of risk retention partners thought they could not only safeguard their customers, but also make a little more money on the deal.
Now, even Warranty Gold's (see National Warranty and Warranty Gold failure for more information ) own advice column counsels against RRGs. "Remember that lower price sometimes means higher volume and that higher volume may create future liability that exceeds cash reserves and reinsurance limits with little hope of protection for the consumer," the company's online FAQ now suggests.
Insured products are just that, Companies that work hard to provide first-class insurance backing for clients and their customers are careful about whom they choose to insure their products.
Insurance regulations generally require companies to:
Maintain an adequate financial reserve to pay claims.
Base their contract fees on expected claims. Some service providers have been known to make huge profits because the cost of their contracts far exceeds the cost of repairs or services they provide.
Seek approval from the state insurance office for premiums or contract fees.
What Is The Nature Of The Deductible?
Fully investigate a policy's deductible before signing on the dotted line. Consider not only its amount, but also whether it's per visit or per repair. With a per visit deductible, each visit to the shop will run you a fixed amount, regardless of how many parts are repaired; a per repair deductible applies to each serviced part. What sounds like a minor difference could have a major financial impact. If, for example, you've got a $100 per-repair deductible and you take your car in to get the air conditioner, fuel pump and alternator serviced, you'll be out $300; had you opted for a per visit deductible, those repairs would only have cost you $100. Remember that you can also sometimes choose the level of deductible in your coverage contract. The higher the deductible, the lower the cost of your extended service contract.
Is The Extended Service Contract Transferable?
Some extended service contracts end when the person who bought the contract sells the vehicle. A extended service contract that allows you to transfer it to a new buyer is preferable; it's also an excellent selling point for prospective buyers when you decide to sell your vehicle. Investigate any fees associated with transferring your warranty.
Can Repairs Be Performed At Any Repair Shop?
Some extended service contracts require that repairs be performed at the dealership from which the extended service contract was purchased; this can be limiting and inconvenient. You want to look for a extended service contract that gives you more than one service facility to choose from. You'll appreciate this if the vehicle ever needs service while you're on a road trip, miles away from home.
Is A Cash Layout Required For Repairs?
Breakdowns are by their nature inconvenient. Ensure that inconvenience is not magnified by difficult claim terms. Some extended service contracts require that you pay the bill, then send the receipt in and wait for reimbursement. That reimbursement may take weeks or months. While you will always need to call for approval in advance, some extended service contract programs pay the service repair facility directly with a credit card immediately upon completion of the repairs.
What Is The Term Of The Extended Service Contract?
Start: Ensure your warranty starts on the date you sign the contract. Most manufacture and many third party dealer extended service contract programs calculate the service contract duration coincident with the original first owner purchase date of the vehicle. Clearly, if you’ve had the vehicle for several years, this is to your disadvantage. If you purchase a extended service contract that begins the day you execute the contract, the date of expiration will be clearly defined. Ensure you understand any waiting period before your extended service contract comes into effect.
End: Your extended service contract will end based on years or mileage. For example, if you purchased a 4/60 term contract, it will either end 4 years from the start of the coverage or when your car reaches 60,000 miles, whichever is first
What is Not Covered?
All extended service contracts will have a list of exclusions or things that are not covered under the contract. Many of the exclusions are standard across agreements but there are some that one should be aware of. Many common breakdowns can be hidden in the exclusions section of a warranty contract. Here are some common exclusions you should be on the lookout for:
Damage caused by overheating.
Excessive severe requirements.
Parts that have not physically broken are not covered.
Any covered part that has not failed. This includes seepage of seals and gaskets.
The gradual reduction in operating performance is not covered, regardless of cause.
It is recommended that you read a extended service contract prior to purchasing your coverage. Don't accept a brochure as it will only provide general information. Reputable companies will provide you with copies of the contract to review prior to purchasing. The most reputable providers will publish their contracts on their web sites.
So is the price of the extended service contract all I pay?
While the price of your warranty is a large part of the total cost, it is one of several cash outlays you will have to make over the life of the warranty. Other outlays include:
Deductible payments made each time your vehicle is serviced or repaired. Under some extended service contract, you pay one charge per visit for repairs—no matter how many. Other extended service contract require a deductible for each unrelated repair.
Transfer or cancellation fees if you sell your vehicle or end the contract.
Some extended service contracts have limit on how much the contract will pay on certain repairs (e.g., transmission re-build not to exceed $4,000) or benefits to be received under the contract (e.g., amounts paid for towing or related rental car expenses).
Finance charges associated with paying the cost of the extended service contract over time. You should be aware of any interest, inception or other costs should you decide to finance your extended service contract. This is particularly true in the case of an extended service contract purchased through the dealership coincident with the purchase of the vehicle.
