How Does Gap Insurance Work
Gap Insurance Work
Hello, Brini here. Yesterday, I had a heated discussion with my neighbor about whether pineapple belongs on pizza. We didn’t come to a conclusion, but it reminded me that when Allstate says you’re in good hands, it doesn’t necessarily mean the hands of fate and sometimes you need coverage for the unpredictable, much like gap insurance for your automobile.
Gap insurance is a kind of auto insurance you can get to give yourself coverage in the event that you total your car, and the compensation you receive does not come close to covering what you owe on your financing or lease agreement. Say, for example, the balance on your car loan is greater than the book value on the vehicle; gap insurance will cover the difference.
How Gap Insurance Works?
It’s not uncommon to owe more on a car loan than the vehicle is worth, particularly because cars lose value so quickly. According to data from Carfax, the average car depreciates 10% in the first month of ownership.
If your car is totaled, your car insurance company will compensate you based on its current value after this depreciation — not the purchase price, the cost of a new one, or the amount you still owe on your loan or lease agreement. That’s where gap insurance is.
For instance, let’s say you purchased your car two years ago and have $20,000 remaining on your financing agreement. However, after depreciation, your car’s actual cash value is $15,000. If your car is a total loss after an accident or if it is stolen, your car insurance policy will pay $15,000. You can apply that $15,000 to your car loan, but you’re still $5,000 short of the amount owed even with no car.
If you have gap insurance, it will cover the $5,000 “gap,” or difference, between the money you receive from the reimbursement and the amount you still owe on the car.
What Does Gap Insurance Cover?
Gap insurance applies any time your vehicle is stolen or is declared a total loss due to an accident. But when you file a qualifying claim, your comprehensive or collision coverage will reimburse your vehicle’s actual cash value (ACV), minus your deductible. Your gap coverage may then cover any difference between your vehicle’s ACV and the remaining balance on your loan or lease. If your gap coverage has a cap, that means it may only pay a percentage toward the amount you owe, if you’re way upside down on the car. Finally, be aware that gap coverage typically won’t cover anything else related to your loan like finance charges or excess mileage charges.
Why Do I Need Gap Insurance?
If there’s a large gap between your car’s value and what you owe on it, gap coverage can be a worthwhile safety net. You should consider purchasing gap insurance in these situations:
If you’re getting a lease, lenders may require gap coverage on leased cars.
If your down payment is less than 20% of the sale price, you could have negative equity in the vehicle as soon as you drive it off the dealer’s lot. Even if you’re buying used, do the math on this — gap insurance for used cars can prevent you from getting stuck in negative equity the same way it helps on new cars.
The longer your vehicle is financed, the more likely you are to owe more on the vehicle than it is worth.
Some cars depreciate much faster than others, so knowing the average depreciation for your car could give you an idea of whether you need gap coverage.
If you have negative equity when you reach your loan renewal point, gap insurance can protect you against the unpaid loan amount.
Examples Of When To Consider Gap Insurance
You borrowed money to buy a car and paid little or nothing down: In the absence of a sizeable down payment, you’ll be underwater in your auto loan as soon as you drive off the lot. Cal even shows that it might take a few years before the loan amount and the actual cash value of the car line up.
- You were upside-down in your car trade-in: If you were upside-down in your car trade-in, the dealership will roll that difference into the new car’s loan balance unless you pay that difference up front. This extra balance can bite you if your car is totaled or stolen.
- You are going to pile up the miles fast: Very few things depreciate a car quicker than lots of driving. The more miles you put on, the quicker you’re diminishing your vehicle’s worth, and you’re probably losing the worth of your car quicker than your payments can follow.
- You financed a car with a long loan term (more than 60 months): A long-term loan will take longer than average to reach the breakeven point, where you balance the value of your loan and the value of the car you’re driving.
How Much Does Gap Insurance Cost?
Just like all car insurance, your rates may differ depending on your state, driving history, age, car and other factors. Most insurers can add gap insurance as an endorsement to your other policy. You can also find gap insurance at car dealerships, but it’s likely to cost more than adding this coverage to your existing car insurance policy.
Is Gap Insurance Mandatory?
Gap insurance is not required, but your financing agreement might require it. You should carefully review the terms of your car loan to determine whether you need gap insurance. Some car leases require you to purchase gap insurance.
How Long Does Gap Insurance Last?
Gap insurance is permanent once you add it to your policy. But you also don’t need gap coverage for the life of the loan. Once you owe less than the car worth, you can drop the insurance.
How To Purchase Gap Insurance?
Though some dealerships do provide coverage for both leased vehicles and financed vehicles through gap insurance, you could still be covering interest on your gap coverage as part of the combined lease/loan payment. Purchasing the insurance through your auto insurer may be a more sensible way to go.
Conclusion
FAQ
Yes if your car is stolen and unrecoverable, gap insurance can cover theft.
No. Gap insurance isn’t used for mechanical repairs but rather in the event of a total loss from a covered accident or theft.
No. Even if you were injured in a covered accident, you would still pay your deductible (the out-of-pocket amount you pay before your coverage pays) per your gap insurance policy. So, if the reimbursement difference (or the reimbursement cost amount or the “gap” reimbursement amount) is $4,000 and your deductible is $500, then your full reimbursement amount is $3,500.
No. Gap insurance is only meant to cover car losses, it doesn’t cover bodily injuries, medical expenses, lost wages or funeral costs.
Gap insurance has plenty of benefits, and deciding whether it’s worth it is up to you and your specific situation.
Some reasons to think about purchasing gap insurance are
- Protection in case the value of your vehicle depreciates faster than you are paying off your loan.
- Your lender might require it. Review your loan terms and ensure you’re protected if necessary.
- If you’re working with a large loan or long-term financing, you’re more likely to be upside down, or owe more than your vehicle is worth.
You owe more than your vehicle is currently worth, also known as negative equity. And yes, gap coverage covers negative equity.
