If you are buying a new car, especially if you are planning to lease or finance it, you may have heard the term “GAP Insurance” being thrown around. GAP Insurance, or guaranteed asset protection insurance, covers the difference between the actual cash value of your vehicle (ACV, how much your car is worth) and the amount that you still owe on the vehicle. Based on this definition, you can see why it is so important to have this type of insurance if you plan on financing or leasing a car. In fact, some financial institutions even require it!
How Does Gap Insurance Work?
If you are still confused as to what GAP insurance is, let’s take a look at this example:
We all know that buying a car is a bad investment. As soon as you drive it off the dealer’s lot, it will start to depreciate in value. Research shows that a new car might lose up to 15% of its value the minute you start to drive it.
Now, let’s say you buy a new car for $19,000. You decide to put $750 down and your payments end up being $350 per month. As luck may have it, just three months after you purchase this car, you get into a bad accident and your vehicle is totaled.
Fortunately, you are not injured in this accident. Unfortunately for you, however, the insurance company determines your car to be only worth $14,000 at the time of the accident. Not considering interest, after three months of driving the car, you have only paid $1800 on the vehicle (including down payment). This means that you still owe $17,200.
So, to recap, you owe $17,200 to the bank, but the insurance company on valued your totaled vehicle at $14,000. This means, that you will somehow have to pay $3,200 to the bank after the insurance company cuts them a check.
This is why having GAP insurance is so important if you choose to lease or finance your vehicle. If you are ever “upside down” on the vehicle (meaning you owe more than it is worth), you are in serious danger of having to pay money out-of-pocket if something ever happens to it. Being covered with GAP insurance will take all your troubles away in the event something unlikely occurs.
How Much Does Gap Insurance Cost?
Gap insurance is relatively inexpensive, which makes it even more surprising when people who need it don’t buy it. Gap insurance usually will only cost you about 5% of what you pay for collision and comprehensive coverage.
So, if these payments usually cost you $500 annually, you can expect to pay something like $50/year for GAP coverage. Yes, it’s that cheap!
Who Should Buy GAP Insurance?
If you lease a car, you should buy GAP insurance. The reason for this is because lease payments are low. Chances are, the amount you pay on the car is much less than the actual value. Many lease contracts even require it.
If you need a loan for a car, you should consider buying GAP insurance. This makes sense especially for those who will owe more than the car’s ACV at any given time. (If you make a good sized down payment on your vehicle, you are most likely to not need GAP insurance as you will probably never be upside down on the vehicle.)
If either of these situations sound like your own, you should talk to your insurance agent about adding GAP insurance to your existing policy.