What is Gap Insurance and When Do You Need It?

What is Gap Insurance and When Do You Need It?

Gap insurance, also known as Guaranteed Asset Protection, is a financial product that many car owners consider buying when they purchase or lease a new car. If your car is written off (totaled) or stolen, gap insurance will help you pay the difference between your car’s current value (money given by the insurance company) and the outstanding payments on your car loan. If you are considering whether it is worth it to buy this insurance, we bring you some valuable insights.

What is Gap Insurance?

Even though you might have purchased a comprehensive insurance plan for your car, you can lose money in cases where your car is declared a total loss. This happens because new cars tend to depreciate (lose their value) pretty fast. On an average, a car can depreciate up to 60% within three years of its purchase. For instance, you bought a new car for $12,000 and it gets totaled or stolen after 3 years. Your insurance company will only pay $4,800, the current value of your car. This money won’t be enough to buy a new car, and if you have a pending loan for your car, it won’t be enough to repay that as well.

Gap insurance is a policy that’s designed to help you cover the difference between what your insurance company will pay out and your balance on the loan or the amount you paid to purchase your car (based on the type of policy you buy). Normally, gap insurance is not designed to cover old vehicles or relatively inexpensive cars as their depreciation rate is lower.

When Should You Consider Gap Insurance?

If you have a risk of being in negative equity because you owe more to a financial company than what your car is worth, you should consider gap insurance.

Factors that may lead to an upside-down loan:

  • You are paying a high rate of interest

  • The model of your car tends to lose value quickly

  • You paid a small down payment on your car (less than 20%)

  • You have chosen to pay off your debt slowly (say over a period of 3 to 5 years)

  • Your finance arrangement requires you to pay a large sum of money at the end of your tenure, also known as balloon payment

If you bought your car on a long-term contract, you might end up owing more money on your contract deal than what your insurance company will pay in case the car is totaled or stolen. Also, if you have bought a brand-new car and don’t have too much cash in your account, it may not be possible for you to replace your car with another new model if it is written off.

In such cases, it is advised to opt for gap insurance to save money and help you buy another car in case of any mishap.

You should shop around before you finalize your gap insurance deal as you might get various good offers from dealers, financial companies and even insurance companies from where you buy your primary insurance.