Last year Ronald George of Alexandria bought a used foreign car with 58,000 miles on it. Six months later, in November the transmission went haywire. The repair bill for the three-year-old-car was $946.18. He only had to pay $25.
Kemp L. Swiney Jr. of Vienna bought a used car early this year. Three months later, in June, a loose screw ruined the carburetor and other engine parts. Cost to repair: $1,141. Most of that didn't come out of his pocket either.
At the time they bought their cars, both men purchased service contracts from the dealer which included modest deductible amounts. Such repair contracts -- sometimes called "lemon" or "major medical" insurance for autos -- have become a big business in the automobile world in the last few years.
It's an "exploding" field, says Jerry Farrar, president of American Warranty Corp., the largest of an estimated 250 firms selling service contracts to new- and used-car buyers. His Los Angeles-based firm was the first in the business in 1974, he says. Now it places service contracts on a half-billion-dollars' worth of vehicles annually, through 5,000 car dealers across the country. George and Swiney both bought American Warranty contracts from Washington-area dealers.
This year, U.S. car manufacturers got into the business of service contracts on their new cars in a big way, in effect extending the standard 12-month, 12,000-mile new-car warranty two to four years as an option at extra cost. General Motors introduced its three-year 36,000 mile (also 50,000-mile) plan in February, Chrysler followed in April with a five-year, 50,000-mile plan and American Motors is currently introducing its version of the three-year, 36,000-mile option. Ford was months ahead with its three-year, 36,000-mile plan.
Still, Farrar believes less than 10 percent of the car-buying public is even aware that vehicle service contract programs exist.
The independents go beyond the U.S. manufacturers in offering contracts on most foreign imports and on newer used cars.Warranty says it is the only firm selling service contracts (six months or 6,000 miles) on used cars with more than 60,000 (but less than 100,000) miles.
Service contracts for autos are similar to those sold by such major appliance dealers at Sears and Wards, in which breakdown protection on a new washing machine or refrigerator continues after expiration of the manufacturer's warranty.
Farrar says the boom in the autoservice contract is the result of a trend toward people keeping their cars longer. Cars used to be traded in almost automatically at 24 or 27 months. But now, because cars cost so much more, people want protection on the car they're still paying for 36 or 40 months later.
Also, he says, car owners see service contracts as a way to beat the rising cost of repairs. According to a recent American Warranty study, the cost of auto parts "has increased 37 percent in the last six months. The hourly labor rate is up another 30 percent." A now $300 repair job could cost $200 or $300 more, he says, before the contract's expiration in four years.
Under the service-contract plans offered by major U.S. auto manufacturers, the buyer can expect to pay from about $150 to $280 for an additional two to four years of warranty protection on a new vehicle.
In the case of American Warranty, the owner of a new Pontiac Sunbird, Ford Fairmont or Volkswagen would pay $215 for a standard 5-year, 50,000-mile contract. (The five years includes the manufacturer's 12-month, 12,000-mile warranty.) For a Cadillac Eldorado, the cost is $395. The standard plan covers engine, transmission, drive axle assembly, front suspension, steering and air conditioning. Brakes and electrical system can be covered at additional cost.
There are basically three types of contracts: those sold by the big U.S. auto manufacturers, by independents such as American Warranty and by the auto dealerships themselves. Problems arise, says Jeffrey Karp of the Federal Trade Commission, when the contract firms are not adequately insured or do not have the financial resources to meet claims.
A Florida firm holding 16,000 contracts recently went bankrupt. When the state government asked the industry for help, American Warranty, which is insured, stepped in to pick up the contracts and help resolve the claims.
"I'd like to say we did it for humanitarian purposes," says Farrar, but he admits it was because the company feared unwelcome regulatory steps might be taken in the Southeast if those 16,000 contract purchasers let out a wail.
In its magazine "Cars & Trucks," the National Automobile Dealers Association warned its members last year that although there is gold to be had in selling service contracts they could also lose their shirts if they did not have adequate reserves.
The FTC's Karp suggests you read the contract thoroughly, because coverage varies. When the industry first got under way, he says, items covered were those that usually don't break down, but when they do are costly to repair. He says coverage is now moving toward wear-out items such as brakes. For people who have ready cash for repairs, it may not be worth your money to buy a contract, he says.
One point to note is whether you can transfer the contract or get a refund if you decide to sell the car before it expires.
Karp warns against being misled by claims of three- or five-year protection under a contract plan for a new car. That includes the manufacturer's 12-month, 12,000-mile warranty. Farrar responds that in those initial months his company still must provide a rental car if yours should break down.