Breaking Down Limited Lifetime Warranty

Limited lifetime warranty is among the emerging products in dealerships today. Dealers are adding it to vehicles as a marketing incentive and added benefit for customers, but the warranty also offers several additional advantages:

• Provides peace of mind to the consumer
• Will encourage service visits
• Can be added at a reasonable cost

To learn more, let’s take a closer look at each word:

“Limited” indicates that this is not a bumper-to-bumper service contract or even a powertrain warranty. Provisions may vary, but the limitations are generally limited to the engine, transfer case, drive axle and transmission. While this is a significant exposure, it might represent only 30 percent of overall repair costs — which would vary considerably based on the type and age of vehicle.

The coverage is also “limited” to the effect that it cannot be transferred and may have inspection provisions.

Lifetime

A “lifetime” is a long time. It’s a powerful word that means different things to different people. The Federal Trade Commission (FTC) has even defined the term in three discrete ways:

• The life of the vehicle
• The life of the ownership of the vehicle
• The life of the owner

The language should be clear as to what lifetime the warranty covers. In almost all cases, the “lifetime” of a lifetime limited warranty refers to the life of the ownership of the vehicle, assuming that other conditions, such as inspections, are met.

Warranty

If it is in fact a "warranty," the dealer can neither charge for it, require any services unrelated to the warranty to be purchased from the dealer nor require authorization from the dealer to get maintenance services performed elsewhere.

However, the dealer may:

• require the customer to prove that manufacturer-recommended maintenance has been performed; in other words, present their receipts,
• make the warranty non-transferrable (this is typical) or
• require the customer to bring the vehicle in for a periodic inspection at no cost to the customer or obtain a comparable inspection elsewhere and provide that inspection to the dealer.

Those are some of the general differences between a warranty and a service contract. There may be other provisions which might or might not be enforceable under the Magnuson-Moss Act.

Pricing and Claims Emergence

Since the coverage is given to every customer of a given dealership — though it may be limited to new vehicles — and is generally non-transferrable, the emergence of claims under this coverage is very different from a typical vehicle service contract.

If the customer loses ownership for any reason, including theft, total loss or sale of the vehicle, coverage ends. There is no refund because there was no charge.

For most books, this will represent a significant reduction of risk. For example, let’s make some basic assumptions and say that 10 percent of vehicles are sold each year, 3 percent are totaled and 10 percent of customers per year will fail to have their cars inspected or maintained, the percentage of eligible vehicles will be small at the end of four years. In this case, assuming these assumptions are independent, 38 percent would still be eligible.

Of course, newer cars are more likely to be maintained and not sold, but there will be little exposure while the vehicle is under the manufacturer’s warranty.

Naturally, a few customers will faithfully maintain their vehicles and not sell or dispose of the vehicle, perhaps due to availability of the lifetime warranty. You can assume that this number will be relatively small. In addition, the cost of repairs cannot exceed the value of the car in most cases, so the potential loss will be limited by the value of the vehicle.

The claims emergence pattern will show up quickly if the coverage is provided on used vehicles which are out of or near the end of their manufacturer powertrain warranty. In general, claims will drop off rapidly over time. For new vehicles, the emergence of any claims is deferred by the manufacturer warranty.

Pricing this type of coverage is challenging because of these factors that affect claim emergence.

If you have service contract data, the best approach is to model the data using past sales as a guide to where the claims begin. Since the warranty will be provided on all vehicles, there will be differences between the typical warranty risk and the typical service contract risk.

Only claims covered under the provisions of the warranty would be included. In addition, assumptions about the transfer, total and noncompliance rate should be included.

Another difference is that products which are “free,” including warranties, will have somewhat lower claim experience than purchased products such as service contracts. This is probably due to a “forget” factor since nothing was ever purchased and service contract purchasers may be more aggressive in repairing their vehicles.

Limited lifetime warranties can be a “win-win” for dealers and car buyers. As noted above, these types of warranties can have a beneficial effect on sales. For consumers, they provide peace of mind and financial help for catastrophic repairs. In addition, they encourage good habits of vehicle maintenance.

For more information, check out the FTC’s Businessperson’s Guide to Federal Warranty Law and their Consumer Alert regarding manufacturer-provided warranty coverage.