Extended warranties are a booming business for one reason: They make money for the companies that sell them. That’s why it’s so important to crunch the numbers before purchasing any type of extended warranty. In many cases, you’ll be better off just putting that money in a savings account.

The Economics of Extended Warranties

Companies that sell extended warranties are in the business of making money. Some estimates put the yearly revenues of the extended warranty industry at over $25 billion. Since those revenues are built on the backs of warranties and service contracts that failed to pay out as much as consumers put into them, it’s pretty clear that buying an extended warranty is a losing proposition. There are some circumstances where it makes some sense to buy one, but you’re usually better off skipping the extended warranty and saving the money.

Examine the Warranty

Some big ticket purchases are incredibly expensive to repair, which can make an extended warranty seem like an attractive option. However, it’s vital to look at the factory warranty before pulling the trigger. A lot of consumer electronics and appliances have generous factory warranties that cover any problems that an item might develop early on. Statistics show that if an item is going to need repairs, it will typically fail within the time period allotted by the factory warranty.

It’s also vital to determine whether or not an extended warranty actually provides coverage that the factory warranty doesn’t already offer. This is especially important if you’re in the market for a new car because OEM factory warranties are usually quite comprehensive. Some automakers offer up to 10 years of coverage on vital powertrain components, and others provide free service for a specific amount of time.

Look at the Failure Rates

Different items have varying failure rates, so it’s a good idea to look at some hard numbers before paying for an extended warranty. Some major appliances and consumer electronics have remarkably low failure rates, but extended warranty companies are more than happy to sell you coverage that you’ll probably never need. According to Consumer Reports, only 10 percent of all dishwashers ever require service, and digital cameras are similarly unlikely to fail. The failure rates of most other consumer electronics are even lower.

Computers are more likely to break down at some point, but about 70 percent of them survive without ever requiring significant repairs. You’ll typically be better off saving the money you would have paid for the extended warranty because it will probably be time for an upgrade by the time your computer fails. At that point, you’ll be able to dip into your savings account and apply that money toward your next purchase.

The Cost of Self-insuring

The basic concept of extended warranty coverage is sound. Repairs are often costly, and it can be tough to fit an expensive repair bill into an already strapped budget. However, you’re typically better off skipping the extended warranty and self-insuring. If you take the money you would have paid for the warranty and put it in a savings account, you’ll enjoy multiple benefits. The money will earn interest, and it will be available if you ever need to pay for repairs. It will also be available if the item you purchase never needs repairs, which isn’t the case with extended warranty coverage. If you pay for a warranty and never need it, that money is gone forever.

Extended warranty companies operate just like insurance companies. Some of the warranties they sell actually pay off for consumers, but the majority don’t. As a single consumer, you don’t enjoy that protection. However, there is a way you can turn the odds in your favor. Every time you have the option to purchase an extended warranty, you can put the money into a dedicated savings account. Since it’s highly unlikely more than a few of the items will actually break, you should always have more than enough to cover repair costs.

Fortunately, you can enjoy a night out or an exciting weekend for little expense by exercising a little creativity. In fact, the times you remember most fondly will likely be those where you got together with family and friends and spent the least money.

Avoid soaring entertainment expenses and have more fun by taking advantage of the wealth of free or inexpensive activities in your own neighborhood.

Community Events

Sign up for a community newsletter that lists upcoming events. Many of these local events are inexpensive or free. Most communities feature indoor and outdoor festivities such as agricultural fairs, spring flings, craft fairs, music festivals and showcases of local heritage. Pack your own lunch or eat before you set out to save on food.

Potluck Dinners

Assemble a group of friends, and hold potluck dinners at a different house each week. Assign the main course to the host, and have guests bring side dishes and desserts. It is easier and cheaper to buy food in bulk, especially if you pay attention to sales.

Add an activity that interests all of the guests, such as an after-dinner board game.

Movie Nights

Spring for soft drinks and popcorn, and invite your friends over for a movie night. Watch a DVD you already own, or borrow one from a friend. Many libraries offer a good selection of DVDs. Consider classic films and new releases, which generally appeal to a variety of tastes. If you are feeling creative, choose a theme and ask your guests to bring related snacks.

Game Night

Invite your friends over after dinner to play card or board games. Games, unlike concerts and movies, are great for encouraging conversation and laughter. Ask your friends and family to bring some favorites to expand your selection.

Offer games that both kids and adults will enjoy. Search yard sales and second-hand stores to find board games at a fraction of their original price.

School Plays and Concerts

Support your schools and enjoy some great entertainment by attending plays and concerts put on by local kids. Go with a group of friends, and make an evening of it. Admission prices are much lower than those for professional plays and concerts.

While the performances may be less polished, the enthusiasm level is likely to be higher, and you will all feel good at the end of the evening.

Libraries

Public libraries offer free entertainment to children and adults alike. Most public libraries feature summer story hours for children to promote reading. Many of these programs offer prizes, which may include movies passes and tickets to sporting events.

Adults can take advantage of books, digital e-books, magazines, newspapers, music CDs and movies. See if your library offers culture passes, which allow families to attend science centers and museums for free.

Free Days at the Museum

Museum admission can be expensive, so take advantage of discounted and free days that are generally offered once a month. Museum websites will tell you when these days are scheduled.

Pick-Your-Own Farms

Take your kids to a pick-your-own farm to get fresh vegetables and fruit at bulk prices. Picking starts in March for asparagus and runs through September or October for apples. Larger farms may offer hayrides, face-painting, tractor rides, petting zoos, storytelling and corn mazes.

Time your visit for the morning when it is likely to be cooler, and remember to bring a stroller for the little ones.

Letterboxing

Try your hand at letterboxing, a high-tech treasure hunt requiring only a notebook and stamp. Visit the Letterboxing North America website to print out clues to the location of a box hidden in a public location. The box will hold a logbook and stamp. You will mark the logbook with your stamp to show that you have found the box and then imprint your own notebook with the letterbox stamp.

Eventually, you and your family will have a notebook filled with the stamps of letterboxes you have found. Kids will benefit from outdoor exercise while developing map-reading and puzzle-solving skills, and everyone will enjoy the thrill of a treasure hunt.

We will be poring over applications during the next month and will announce our 1st winner on June 1st, 2012 via blog post and email.

Also, be on the lookout here for the timeline and details of the second undergraduate scholarship within the next two weeks.

Thanks to Lisa for pointing out our error – now corrected!