What Are Phone Subsidies?

Wireless phone subsidies still remain a mystery to a lot of people, so lets get to the bottom of it here!  Ever wonder how wireless providers can sell a phone that is normally hundreds of dollars for $50, or even give it away for free?  The actual cost of wireless phones can very from fairly inexpensive (ex. $50) to very expensive (ex. $700 or more).  When I'm referring to the actual cost, that's the cost that the wireless company pays to the phone manufacturer (ex. Samsung, LG, Apple, etc.).

There's actually a LOT of technology in wireless phones that most of us tend to take for granted.  Consider, vibrant color screens, microprocessors (ex. quad core chips), memory, metal, plastics, lithium battery, GPS chip, cameras, multiple antennas, the operating system, etc.  There's actually a lot of costs for research and development, as well as manufacturing.  Cell phones really are very high tech toys!  Think about the software to communicate with the cell tower so that it knows how to hand off from tower to tower without dropping the call, and often while traveling 65 miles per hour!  Making this work correctly is truly rocket science!  With such technology comes a cost, and while costs have come down over the years as we get better and more efficient at building them, there's still a real cost to wireless providers.


Most people, however, do not want to pay hundreds of dollars for what they consider to be an average smartphone.  And remember that that's in addition to the monthly service bill you get.  So, to help customers, wireless companies historically discounted phones when you sign up for a new plan.  This is part of what is known as COA, or Cost Of Acquisition.  This is part of the cost to get a new customer, which includes a number of factors, including the phone cost (or subsidy), dealer compensation, marketing, etc.  What this means for you is that the wireless carrier actually may have paid $700 for a phone that they then sell to you for $200.  That difference of $500 is called the handset or phone subsidy, and actually represents an initial loss.  They're not simply taking a smaller profit like putting a shirt or shoes on sale.  You're literally payment less for the phone than the carrier actually paid for it!

Contracts Save Carriers Money

Subsidies are the primary reason why wireless companies have required that you sign a contract.  And often, the longer the contract you sign (ex. 1, 2, or 3 years), the greater the discount you can get on the phone that you want. Often times people complain about these contracts, however, consider that for each new customer that they get, wireless providers are losing money; at least initially.  That is, if you were to pay $200 for a $700 phone, and pay $50 a month for two months of service and then cancel your plan, they would have not only lost on the cost of the phone, but also the other costs that go into acquiring you as a new customer (dealer compensation, marketing, etc.).  That's why they have you sign a contract.  That decreases the likelihood that they won't lose money on you.  And as much as we like getting things for free or at deep discounts, if wireless companies don't make money, they simply can't survive.

So, if you terminate your contract, there's an Early Termination Fee (ETF) that you'll pay.  This is used to help recoup their costs.  You'd be surprised how long it takes for wireless companies to break even on you as a new customer.  Depending on the type of phone you buy, and the type of plan you have, it could take upwards of 6-8 months!  There was an industry makeover a number of years ago whereby the ETF fee became prorated as you near the end of your contract, because obviously as time passes carriers need less money to recoup their cost and to break even on a given customers, so charging the full $150-$200 ETF wasn't "fair."

You'll Pay More For A Prepaid Phone

With all of this background you might be asking yourself: "What does all this have to do with prepaid wireless where there are no contracts?"  You might notice at stores that the same phone will cost more if you're a prepaid customer than if you choose postpaid; this is the no contract price.  The difference is because of the subsidy.  Without a contract, wireless companies have a higher risk that you can leave anytime.  So if they subsidize the phone too much, there's a greater chance that they'll lose money on you.

As technology and economies of scale (i.e. volume) increase, prepaid wireless providers were able to sell phones with zero subsidy.  However, for the higher end, nicer phones, there's almost always some kind of subsidy.  So yes, as a prepaid customer you'll usually pay more for your phone, however, you also have the luxury of changing wireless providers at anytime, and without any penalties.  There's definitely a lot of value in having that freedom!

Refurbished Phones Can Save You Money!

One last note about subsidies.  You may often see really good prices on prepaid wireless phones that are almost the same, or even sometimes lower than phones sold with postpaid plans.  This is typically due to the fact that those phones are not new; they are refurbished.  I happen to be a big fan of refurbished phones.  If a phone has been used, companies can't legally sell them as new.  However, the reality is that refurbished phones undergo careful scrutiny that they function correctly, and typically you can't even find a scratch on them, because they'll often replace the casing as part of the inspection process.  So as long as the phones comes with some kind of warranty (ex. 90 days), I wouldn't be turned off by refurbished phones.  In fact, you can often get a much nicer phone at a great price!  And if you buy it with a credit card that offers extended warranties on electronic products, you may be able to have even greater peace of mind knowing that you have even longer coverage in case something goes wrong.  But let's be honest.  Most of the time we have problems with our phones because we drop them one too many times, as opposed to a refurbished phone having a problem because it was "previously enjoyed."  Read more about Cell Phone Contracts.

But Wait!  There actually are options to get a free prepaid cell phone.  Learn about government subsidized programs for income eligible households at Free Cell Phone Service, or shop for "previously enjoyed" phones at Gazelle!

Be Heard!  Let prepaid wireless providers know what you want; fill out the survey now.