It should catch your attention when a rent-to-own store sells a previously rented white 17.6 square foot Whirlpool refrigerator for more than the price of a new 22.6 square foot stainless steel French door Frigidaire with an automatic ice maker and an external water dispenser.
People vary greatly in their feelings about rent-to-own. Some people think it costs too much, but others like the flexibility, the low (if long) stream of payments, and the lack of a credit check. I am going to stay agnostic and instead break it down into a discussion of economics.
I walked in to a local Rent-A-Center recently. The store was empty except for the sales lady that quickly approached me from the back of the store. “I would like to see a refrigerator,” I said.
She had four refrigerators on display in the corner of the store. I told her I needed one to fit a 33″ by 62″ space – a fairly common size. She had four models but each was far too narrow. Nonetheless, I did give them a look over. Two were from Whirlpool – one 17.6 foot model in a Satin finish and a slightly larger one in white.
The Satin Whirlpool was selling for 56 payments of $23.27 each with a balloon payment at the end (“the purchase option”) of another $100. The label was clear about that it would ultimately cost $1,404 to buy it through payments. Alternatively, there was a 90-day same as cash option for about $1,100. The white model was 22 square feet but also refurbished. It was selling for 54 payments of $29.09 with an additional purchase option fee of $126. In all, the price for this model was $1,693. Ninety days same as cash: $1,115.
Here is the same model at Lowe’s. This week, Lowe’s has it for $629.10 new.
The fair question is to ask how much it is reasonably worth to have the chance to spread those payments out over a year. To do this, you have to factor for the time value of money by applying a discount rate.
A discount rate of 8 percent describes the perspective of a consumer that would be equally willing to pay one dollar today or $1.08 one year from now. If you think about it, this is common sense: unless you live in Japan after the collapse of their bubble, a dollar today should be worth more to you than a dollar tomorrow. The only question is how much – a factor which varies greatly among different people and different institutions. Generally it is assumed that governments have a lower discount rate than to private corporations, because they are not under the pressure to provide a high rate of return. Similarly, it is widely perceived that as individuals gain more wealth, they will be willing to put off receiving a dollar and thus they will be willing to take less for a delayed payment. If you are poor, you would need a lot more to justify waiting a year.
If you are on the “pay” side, then the discount rate will reveal how much more you would be willing to pay at a later date relative to paying cash upfront.
Let’s then go back and re-evaluate the cost of that refrigerator. At Lowe’s, the new model costs $629. For the sake of simplicity, we can ignore that a new model and a used model (*not refurbished) should have different values.
So, the next step is find the discount rates implied by this transaction. If the buyer had a discount rate of eight percent – a blend between normally accepted rates for governments and businesses – then the value of putting off a $629 purchase for one year is $684. That reflects a simplified calculation, where the payment is made in one installment at the end of 12 months.
It turns out that the actual discount rate for this payment stream (56 payments with a balloon at the end) is far higher: about 55 percent. Putting off your payments is clearly worth a lot to any customer that would buy this refrigerator.
The implied trade-off value is not much different in the first few weeks after the contract is signed. The $23.27 payment, when made five weeks later, is perceived as the same as one for $25.14 five weeks later. However, the value of the discount reflects a skyrocketing equation – by the 55th week, putting off those payments now makes the $23.27 worth $54 (in the opinion of such a shopper).
Rent-A-Center differs from Aaron’s in an important way. Rent-A-Center takes weekly payments whereas Aaron’s customers pay once a month. Some months that means five payments. That might be less onerous than it sounds, though, because a low percentage of low-income people are on salary. It is likely that many are being paid weekly, being paid with tips, or earning all cash.
It also means that Rent-A-Center is going to be vulnerable to very short-term renting. A friend of mine says “everyone wants to rent a huge TV for the Super Bowl. Then a week later you can return it.” In that case, Rent-A-Center (or any other RTO company) has to pay for the cost of picking up the furniture. It would be the same scenario, albeit not quite as bad, if a consumer used RTO as a means to move furniture between apartments. These are instances where the RTO company suffers if the consumer wants to game the system.
As well, there is the option to pay ninety days same as cash. In the case of this used Whirlpool, the ninety day same as cash offer is just $1,100. This is a better deal.