Sears Canada debacle one more reason to avoid extended warranties, experts say

When Karen Dwyer renovated the kitchen in her St. John's home last year, she bought all new appliances from Sears and spent extra on an extended warranty for each one.

"For us, with the three appliances — the dishwasher, fridge, and stove — the three-year warranty totalled about $800 dollars," she said.

Dwyer said it was the first time she ever bought an extended warranty.

They were supposed to cover repairs if any of the appliances broke down within the three-year period of the contract.

But those warranties are now void. With Sears shutting down in Canada and beginning the liquidation process, the company has said it won't honour extended warranties unless they were purchased within the past 30 days.

Dwyer is out more than just $800. She says she has also lost some peace of mind.

"I'm worried that in six months' time, or in a year and a half time, my fridge that cost me almost $3,500 is going to not be working." Dwyer said.

"I'm concerned about what is the total value of all those appliances, and who's going to look after me and who's going to cover those concerns that I have."

Sears Canada told CBC News it had an arrangement to send customers a coupon equal to the amount they paid for the extended warranty provided they hadn't made any service calls during the warranty term. The coupon could be used in store for twice its value.

"Unfortunately, in [Dwyer's case], the term of the agreement had not yet arrived, and so no coupon would have been issued at this time," spokesperson Vincent Power said in an email.

A waste of money?

The extreme example of Sears' collapse is yet more evidence that extended warranties, although hugely profitable for retailers, are generally a waste of money for consumers — and a costly one at that.

"Businesses make a lot of money, that's the bottom line," says Pranav Jindal, an assistant professor of marketing at the University of North Carolina.

Jindal is the author of Risk Preferences and Demand Drivers of Extended Warranties, a study published in 2015 in the journal Marketing Science. The research contains insights that reveal not only the critical financial value extended warranties provide to retailers but also the reasons people continue to buy them even when they know innately it's probably a bad deal.

The profit margin on a refrigerator or other appliance is usually around 15 to 20 per cent, Jindal says. The markup on extended warranties can be as much as 300 per cent.

They are such a cash cow, Jindal says, that at one point extended warranties accounted for about 80 per cent of all of Best Buy's profits.

One reason they're so profitable is because retailers rarely have to pay any repair costs.

"The thing with extended warranties is that a lot of them can have clauses in the fine print that can make it really easy to deny coverage," says Kerry K. Taylor, a financial writer who runs the money blog Squawkfox.com.

"A lot of them often exclude parts that can go wrong with your gadget, and some may charge a fee to make a claim and others may have a deductible, which basically nullifies the benefit of getting your thing fixed through the extended warranty."

The first year of most extended warranties also usually runs concurrently with the manufacturer's warranty. This means if something goes wrong with the product within the first 12 months of purchase, generally the claim is made against the manufacturer.

Consumers keep on buying

Many people, even if they don't know every last detail, know at least some of the limitations and costs of extended warranties. And yet they continue to buy them.

Jindal says the main reason is something behavioural economists call loss aversion.

"Paying $500 for a new laptop is not the same as paying $500 for repairing or replacing a laptop you already own," Jindal said his research found.

"Consumers view paying for repairs as a loss. Consumers feel it hurts three to four times worse than paying the price of the product itself.

"This hurt drives consumers to buy extended warranties."

Susan Zanata of Pefferlaw, Ont., once had to pay $600 to repair a washer and dryer. She remembered that pain when recalling how the salespeople sold her on extended warranties for each of the five major appliances she bought at Sears over the past two years. Zanata says her now-useless extended warranties cost her about $1,000.

"You know, I didn't feel good about it when I bought it." Zanata said. "I just kinda knew. And not just because Sears was going out of business. I just don't know why I bought it. I guess I felt vulnerable that day. And I bought it.

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"I'll never buy another one — let's put it that way. Ever. Anywhere I go."

That could be a problem for everyone else.

Jindal's research found retailers make so much money from extended warranties that they often will sell products like televisions at a loss because they can make up the profits from the warranty.

Which means the few people who buy warranties are subsidizing prices for the rest of us.

If people stop buying them, Jindal says, the cost of the product itself would go up.

"[Everyone] would end up paying more money."