Gap Insurance: Protection For Your Car Loan

Gap insurance is a type of auto insurance that covers the difference between the actual cash value of a vehicle and the balance still owed on its financing (car loan, lease, etc.). It is mainly used on new and used small vehicles (cars and trucks) and heavy trucks. It is typically purchased when an individual buys or leases a new car or truck, as the vehicle starts to depreciate in value as soon as it leaves the car lot. Most cars lose 20% of their value within a year. Gap insurance covers the gap between what an insurance company pays out on a claim and what the true damage or replacement cost is.

When is gap insurance useful?

Gap insurance is useful in several scenarios. It is particularly beneficial for drivers who owe more on their car loan than the car is worth. If you are currently paying off a car loan, it is essential to calculate the loan balance and compare it to the car's current cash value. If there is a gap between the two, then gap insurance is strongly recommended.

Gap insurance is also useful for drivers whose car loan or lease agreement requires it. Some lenders or leasing companies mandate gap insurance as a protective measure, especially if the driver has little money down or a protracted loan payoff period. Additionally, gap insurance can be advantageous for those with a very long loan term or a high-interest rate. For example, if you have a loan term of 84 months or an APR of 15%, gap insurance can help cover the difference between the loan amount and the car's depreciated value.

Another instance where gap insurance is useful is when you have negative equity in a trade-in. This situation arises when you borrow more than the car is worth, and the gap insurance can help bridge the financial gap. It is also beneficial for drivers who put a lot of miles on their car, causing it to depreciate quicker than the loan balance.

Furthermore, gap insurance can be a smart addition to your collision insurance policy if you own a car that depreciates faster than average. This is common with luxury sedans or SUVs, and gap insurance can provide financial protection in case of a total loss.

In summary, gap insurance is useful when there is a gap between the amount owed on a car loan and the car's actual cash value, during a total loss. It offers financial protection and peace of mind, especially for drivers with long loan terms, high-interest rates, or vehicles that depreciate rapidly.

How does gap insurance work?

Gap insurance is an optional type of car insurance that covers the difference between a car's actual cash value and the balance left on the loan or lease. In the case of a total loss, gap insurance covers the "gap" between the amount reimbursed by the driver's car insurance policy and the amount they owe on their financing.

If your vehicle is stolen or totaled in an accident covered by your auto insurance, you’ll make a claim on either the collision or comprehensive insurance portion of your policy (whichever coverage applies). Your insurer will pay your lender the actual cash value (ACV) of your car. If you owe more on your loan than the ACV, gap insurance can cover the difference.

You buy a new car with a loan for $25,000. After a year, the car is worth $22,000, but the balance of your loan is $24,000. This is a $2,000 gap. If you get into a car accident where the car is totaled, your insurance would pay you $22,000, which isn't enough to pay off the loan. The gap insurance would give you that extra $2,000 so your loan is paid off.

Gap insurance is a good idea if you:

• Made less than a 20% down payment
• Financed for 60 months or longer
• Leased the vehicle (carrying gap insurance is generally required for a lease)
• Purchased a vehicle that depreciates faster than the average
• Rolled over negative equity from an old car loan into the new loan

You can typically buy gap insurance from car insurance companies, banks, and credit unions. It is much cheaper to buy gap insurance from a car insurance company compared to a car dealership.

Where can you buy gap insurance?

When it comes to purchasing gap insurance, there are a few options available to you. Firstly, you can buy it from a car dealer when you are buying or leasing a new car. The dealer will likely offer you gap insurance as part of your financing options. However, it is important to note that buying gap insurance from a dealer can be more expensive, as the cost of the coverage may be bundled into your loan amount, resulting in you paying interest on the gap insurance.

Another option is to purchase gap insurance from an auto insurance company. You can typically add gap coverage to an existing car insurance policy or a new policy, as long as your loan or lease hasn't been paid off. This option may be more cost-effective than buying from a dealer, as you won't pay interest on the coverage. It is worth checking with your current insurer to see how much it would cost to add gap coverage to your existing policy. Keep in mind that you will need comprehensive and collision coverage on your auto insurance policy to be eligible for gap insurance.

Additionally, some banks or credit unions may offer gap insurance, and it is worth checking with your financial institution to see if this is an option for you. In some cases, buying gap insurance through your bank or credit union may be cheaper than purchasing it from a car dealer.

It is also possible to buy gap insurance from a company that offers stand-alone gap insurance policies. When purchasing gap insurance, it is recommended to compare quotes from multiple sources, as rates can vary significantly between providers.

How much does gap insurance cost?

The cost of gap insurance depends on where you buy it. Dealerships and lenders charge higher prices than car insurance companies.

Lenders and dealerships sell GAP insurance for a flat rate, typically between $500 and $700, which are the highest rates for this type of policy. Plus, you will pay interest on the sum since it will be rolled into your loan.

Insurance companies, on the other hand, charge an average of $20 to $40 per year for GAP insurance when buyers bundle it into an existing insurance policy. This will only increase your comprehensive and collision insurance cost by about five to six percent on average. If you want to buy a standalone GAP insurance policy, you can expect to pay between $200 and $300.

For example, Progressive's GAP insurance can be included in an existing car insurance policy for as low as $5 per month.

When does gap insurance not pay?

Gap insurance covers the difference between what your insurance company pays for a total loss on your car and what you owe on the loan. However, there are several circumstances in which gap insurance will not pay out:

• The car is not a total loss: Gap insurance won't cover any damage that isn't a total loss. A total loss occurs when the cost to repair your vehicle exceeds its depreciated value.
• The claim is over the limit: Some gap insurance policies have a limit on the amount of the claim, usually a percentage of the vehicle's value.
• Policy premiums haven't been paid: If the policy has lapsed due to non-payment when the total loss occurs, the policy will not pay out.
• Fraud or misrepresentation: If the policyholder is in violation of the terms of their car loan or lease agreement, such as failing to make payments or not having the proper coverage, the gap insurance policy may not pay out.
• Waiting period: Gap insurance policies typically have a waiting period before coverage begins, during which the policyholder would not be covered for a total loss.

Frequently asked questions