What is gap insurance and how does it work?

Gap insurance, also known as Guaranteed Asset Protection insurance, is a type of coverage designed to bridge the “gap” between your car’s actual cash value (ACV) and the remaining balance on your loan or lease in the event of a total loss. Unlike regular auto insurance, which covers damages up to your car’s ACV, gap insurance specifically addresses the financial disparity between what you owe and the depreciated value of your vehicle.

What does gap insurance cover?

If your car is stolen or declared a total loss, gap insurance covers the difference between the vehicle’s actual cash value (ACV) and the outstanding balance on your loan or lease. In some cases, it may also cover your standard insurance deductible.

Some car owners assume that if their car is totaled, it will be replaced at the purchase price or at least the amount they owe. However, this isn’t always the case. That’s why several car insurance companies offer gap insurance (also known as loan/lease payoff insurance) as optional coverage to protect you financially.

To purchase gap coverage, you must also have comprehensive and collision coverage on your auto insurance policy. If you lease or finance your car, these coverages are typically required, making it easier to add gap insurance for additional protection.

What isn’t covered by gap insurance?

Here are some common exclusions and situations that may not be covered by gap auto insurance:

• Overdue lease/loan payments: Any missed or late payments on your loan or lease will not be covered by gap insurance.
• Additional insurance or warranty costs: Expenses related to extended warranties, credit life insurance, or other insurance products purchased alongside your loan or lease are not covered.
  • Balances carried over from previous loans or leases: Gap insurance won’t cover any outstanding balances from prior financing arrangements.
    • Lease-related financial penalties: Penalties imposed by the lessor for excessive use or wear and tear are not covered by gap insurance.
      • Non-refunded security deposits: Gap insurance doesn’t cover security deposits that the lessor hasn’t refunded.
        • Deductions made by the primary insurer: Any amounts deducted by your primary auto insurance provider for wear and tear, pre-existing damage, or towing and storage expenses are not covered by gap insurance.
          • Aftermarket equipment: Gap insurance only covers factory-installed equipment, not any aftermarket additions or modifications made by the buyer.
            • Mechanical issues: Problems such as engine or transmission failures, or any other vehicle issues not covered by your car insurance policy, are not included in gap insurance coverage.

How does gap insurance work?

When you purchase a new vehicle, its value depreciates over time. If your car is stolen or declared a total loss due to an accident, the insurance company will typically reimburse you based on its ACV. However, the ACV may be significantly lower than the amount you owe on your loan or lease.

If you have gap insurance, it will step in to cover the difference between the ACV and the outstanding balance on your loan or lease.

Let’s look at an example:

You take out a loan to purchase a new car for $30,000. After a few years, the car’s value drops to $20,000, yet you still have $25,000 on your loan, resulting in a $5,000 gap. If your car is declared a total loss after an accident and you have gap insurance, it would step in to cover the $5,000 gap between the ACV and the remaining loan balance.

To purchase gap insurance, you must have comprehensive and collision coverage on your insurance policy.

How much does gap insurance cost?

The cost of gap insurance can vary depending on various factors, such as the type of vehicle, its value, your location, the insurance company and the coverage options you select.

Typically, gap insurance can cost anywhere from $200 to $800 per year. However, this range is an estimate and actual prices may fall outside this range based on individual factors.

How to get gap insurance?

You can purchase gap insurance from several sources:

• Auto insurance company: Your current car insurance company may offer gap insurance as an add-on to your existing policy, typically alongside comprehensive and collision coverage.
  • Dealership: When buying a new vehicle, the dealership might provide gap insurance as part of their package.
    • Bank or financial institution: The lender that provided the loan for your car purchase may also offer gap insurance as an additional coverage option.
      • Specialized gap insurance providers: Some companies specialize in stand-alone gap insurance policies, allowing you to purchase coverage separate from your primary auto insurance.

Is gap insurance worth it?

Whether gap insurance is worth it depends on your individual situation and factors related to your vehicle and loan. Here are some scenarios in which gap insurance may be beneficial:

• Leasing a car: Lenders often require gap coverage for leased vehicles, as it protects both you and the lender in case of a total loss.
  • Low down payment: If you made a down payment of less than 20% on your vehicle purchase, you might experience negative equity early in the loan term, making gap insurance valuable.
    • Long financing term: Loans with extended repayment periods increase the likelihood of owing more than the vehicle’s value at some point, making gap insurance a wise investment.
      • High depreciation rate: If your vehicle has a higher-than-average depreciation rate, gap insurance can protect you against the financial impact of a total loss.
        • Loan rollover: If you have negative equity from a previous loan rolled into a new loan, gap insurance can help cover the outstanding balance in case of a total loss.

Comparing quotes and coverage options from multiple providers can also help you make an informed decision.

Does gap insurance always pay out?

Gap insurance pays out as long as the total loss claim is approved and your primary auto insurance policy remains active. However, if you have missed car payments, the overdue amount will be subtracted from the gap insurance payout. For example, if you have an outstanding car payment of $400, this sum will be deducted from the amount paid by your gap insurance.

In a nutshell

Understanding gap insurance is crucial for protecting your financial well-being when buying or leasing a vehicle. By bridging the gap between your car’s value and your loan or lease balance, gap insurance provides peace of mind in the event of a total loss.

Frequently asked questions

How long does gap insurance last?

After including gap insurance in your policy, it remains effective for the policy’s duration. Nonetheless, you won’t require gap coverage for the entire loan term. You can discontinue the insurance once the outstanding loan amount becomes lower than the car’s value.

Can you purchase gap insurance at any time?

Gap insurance is typically purchased when you buy or lease a vehicle. However, some insurers may allow you to add it to an existing policy, subject to certain conditions.

Do you need car gap insurance even if you have full coverage?

Gap insurance is an add-on coverage to a standard auto insurance policy. The necessity for gap insurance depends on your vehicle’s value and the outstanding balance on your loan.