Should You Buy an Extended Warranty? A Break‑Even Test

Extended warranties are sold like peace of mind. I prefer math you can remember.

The one rule-of-thumb: The 10% Break‑Even Test

Buy the extended warranty only if (warranty cost ÷ replacement cost) ≤ 10% and the warranty is likely to pay out when you need it.

That’s it. If the warranty costs more than about one-tenth of what you’d pay to replace the item, you’re usually buying expensive insurance for a problem you can self-insure with savings.

Why 10%? Because most products don’t have a high chance of a major covered failure during the extended period, and warranties often have exclusions that shrink what “covered” means. A low price gives you a margin for those realities.

What “replacement cost” means (keep it simple)

• If you’d replace the item when it dies: use replacement cost.
• If you’d repair it instead: use your typical worst-case repair cost as the “replacement” number.

No need to guess perfectly. You’re just checking whether the warranty is cheap enough to be worth further thought.

A clearer version (if you like one tiny calculation)

If you can estimate the chance of a covered failure, use this break-even:

Buy only if: warranty cost ≤ (probability of covered failure × covered repair/replacement value)

In percent form:

Buy only if: (warranty cost ÷ covered value) ≤ probability of covered failure

Example: if you think there’s a 20% chance of a covered failure and the warranty truly covers 100% of the repair, then you’d want the warranty cost to be ≤ 20% of that covered value. If coverage is partial, the break-even threshold drops.

Most people can’t estimate failure probability well. That’s why the 10% test exists: it’s a blunt filter that’s hard to regret.

Where the rule breaks (and the safer variant)

The 10% test can fail in three common situations:

1. Downtime costs you more than the repair If losing the item for a week is a real problem (work tools, critical appliances), the warranty might include faster service, loaners, or on-site repair. That’s value beyond repairs.

2. You can’t absorb a bad week If a surprise repair would force you to miss other bills, the math changes. You’re not just buying “expected value,” you’re buying risk reduction.

3. The warranty isn’t comparable to replacement cost Some warranties cap payouts, depreciate value, or require hoops. Then “10% of replacement” is too generous because the warranty doesn’t actually replace.

The safer variant: The 5% + Clarity Rule

Use this when you’re unsure about exclusions, deductibles, claims hassle, or payout caps:

Buy only if (warranty cost ÷ replacement cost) ≤ 5%, and you can clearly answer:

• What failures are covered (and excluded)?
• Is there a deductible or service fee?
• Is there a payout cap or depreciation?
• Who provides service and how fast?

If you can’t answer those quickly, assume the warranty is worse than it looks and demand a lower price to compensate.

Pocket-card box

Rule: Buy only if warranty cost ≤ 10% of replacement cost
When to use: Coverage is clear, claims are straightforward, item is expensive to replace relative to your savings buffer
When not to: Vague exclusions, payout caps, high service fees, or you mainly fear inconvenience rather than repair cost
How to adapt: If terms are unclear, switch to 5% + Clarity; if downtime is costly, treat “downtime pain” like an added cost and be stricter unless service speed is guaranteed

Mini-scenarios (no currency, just ratios)

Scenario 1: The “seems cheap” add-on

• Warranty cost: 12% of replacement cost
• You estimate covered failure chance: 15%
• Coverage has a service fee: 2% of replacement cost each claim

Quick read:

• 12% fails the 10% test.
• Even with 15% failure chance, you’re paying 12% upfront plus a fee if it happens. The break-even is tight, and exclusions could flip it negative.

Decision: skip.

Scenario 2: The borderline case with clean terms

• Warranty cost: 8% of replacement cost
• No deductible, no service fee
• Provider is the manufacturer, not a third party
• You think covered failure chance is 10–20%

Quick read:

• Passes the 10% test.
• If failure chance is near the high end (20%), it’s mathematically reasonable. If it’s near 10%, it’s roughly break-even.

Decision: reasonable, especially if you hate hassle and the terms are truly clean.

Scenario 3: The high-risk item with bad fine print

• Warranty cost: 6% of replacement cost
• But coverage caps payout at 50% of replacement cost
• Claims require pre-approval and only select repair shops

Quick read:

• 6% passes the 10% test, but the cap means you’re effectively buying coverage on only half the value.
• Adjusted cost ratio: 6% ÷ 50% = 12% of covered value.

Decision: fails. Treat it like a 12% warranty. Skip unless you can get better terms or a lower ratio.

Common mistakes

1. Comparing warranty cost to repair cost when you’d actually replace If you’d replace the item anyway, use replacement cost. Otherwise you understate what you’re insuring.

2. Ignoring deductibles and service fees A small fee can turn “cheap” into “not cheap,” especially if the most likely claim is a mid-size repair.

3. Assuming “covers everything” Many plans exclude wear, batteries, accessories, cosmetic damage, “misuse,” and anything they can label as pre-existing.

4. Buying the warranty because the salesperson is confident Confidence isn’t coverage. If terms aren’t clear, use the 5% + Clarity rule or walk away.

5. Using warranties as a substitute for a buffer If you need a warranty to avoid a budget crisis, the bigger fix is building a small repair buffer in percentages of your monthly spending—not stacking plans on everything.

Extended warranties can be fine—when they’re cheap relative to what you’re protecting, and when the terms are simple enough that “covered” actually means covered. The break-even test keeps you from paying extra for a story.