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What Is Gap Insurance (And Why You May Need It)?

motor1 logo motor1 3/2/2018 Jim Gorzelany
Gap Insurance Lead© Gap Insurance Lead

It helps protect motorists who are "upside down" on a lease or car loan.


If you’re buying or leasing a new car or truck these days, you’ll likely be offered – perhaps required to purchase – so-called gap insurance. This type of policy covers the difference between what a given vehicle is worth and what the owner or lessee still owes on it, should it be stolen or become totaled in an accident. For the record, “gap” stands not for the above imparity, but for Guaranteed Auto Protection.

Gap insurance is becoming increasingly essential for consumers who finance their rides for extended periods and with relatively low down payments to keep their monthly payments affordable (loans as long as seven or eight years are becoming increasingly common). And it’s a necessity to those who lease a new car or truck.

Why Buy Gap Insurance?

Gap insurance is designed to protect motorists who are what’s known as “upside down” on their vehicles, which basically means they owe more money on a given model than its actual cash value (ACV). To an insurance adjuster, this represents the price of the car or truck when it was new, minus depreciation, and accounting for mileage, its physical condition, and other considerations.

If a vehicle is financed and it’s stolen or totaled in a wreck, the insurance company will only reimburse the owner for its ACV, and not what he or she paid for it. Since a new vehicle tends to depreciate rapidly once driven off a dealer’s lot – the average model loses around 19% of its original value after one year, and nearly half after three years – those financing for extended periods may find themselves having to come up with a sizeable wad of money to the lender. This situation only gets worse if the car has an inherently lower-than-average resale value.

Experts say you should consider buying gap insurance if you’re making less than a 20% down payment, and/or are financing a car or truck for 60 months or longer.

How Gap Insurance Works.

Let’s say your car cost $36,000 when new, and you currently owe $32,000 on it. If the ride is declared a total wreck and its ACV for insurance purposes is $26,000 and is subject to a $1,000 deductible, the insurance company would offer you a settlement of just $25,000. Gap insurance, assuming you’ve purchased it, would cover the outstanding $7,000 you’d otherwise owe the financing company.

You can either buy loan gap insurance from a new-car dealer or an insurance company, though not all providers offer it in all states. Since both costs and terms can vary from one company to another – some policies, for example, cover the comprehensive and collision deductible – be sure to shop around if you’re looking to add this component to your policy. According to insurance industry sources, car dealers reportedly charge $500-$700 for gap coverage, while some credit unions and insurers might offer it for around $200-$300. Some insurers will bundle gap insurance as part of their extra-cost new-car replacement coverage, and you can either purchase coverage up front or add it onto a policy later.

On the other hand, if you’re leasing a new car or truck, the leasing company or automaker’s financing division may not only require gap insurance, but will simply build its cost into the agreement.

Gap insurance is essential here because a new-vehicle lease is virtually unbreakable. Whether the car is totaled or the lessee can no longer afford it because of a loss of job or divorce, the lessee is still liable for the aggregated cost of all scheduled payments. Here again, the difference between what the lessee still owes on the contract and the vehicle’s ACV can be substantial, especially if the automaker originally “subvented” the deal by artificially inflating the car or truck’s resale value or applying a hefty cash rebate to the transaction to help move the metal.

And, though we hesitate to overstate the obvious, if you own a car or truck free and clear or it’s worth more than you owe on it, you don’t need gap insurance.

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