Should I buy gap insurance with a new car?

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Here's what you need to know...
  • Driving without insurance is illegal in most states
  • Gap insurance covers you until your new policy goes into effect
  • Understand car insurance basics will help you when buying a new car

If you are looking to buy a new car in the near future, you may be asking yourself do I need to buy gap insurance? In fact, you may have even had a car salesman offer this coverage to you in the past.

There is some debate over the technical definition of gap insurance. Some assert that GAP stands for “guaranteed asset protection” while others feel that “gap” simply refers to the difference in the actual value of the vehicle and the amount owed to the lender.

In reality, both definitions are correct as the product serves a dual purpose.

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What is the purpose of gap insurance?

When purchasing gap insurance, the owner of a new vehicle seeks to ensure they will never be underwater on their auto loan.

Since new cars depreciate in value very quickly, it is possible that if a claim were to occur soon after purchasing the car, the amount paid for the vehicle by the insurance company may not cover the entire amount owned to the loan company.

Let’s say you bought a new car but didn’t buy gap insurance. Six months after purchase, you get in an accident and total the vehicle.

The insurance company’s settlement is for the current market value of the car, usually $6,000 less than what you owe on your auto loan since the car’s value depreciated.

Now you have no vehicle and you owe your loan company thousands of dollars on a car you no longer possess.

If you had purchased the gap insurance offered by your auto dealer, the policy would have covered the difference between the amount owed and market value, thereby paying off your auto loan in full.

What does gap insurance cover?

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Although some policies may set a dollar limit on the amount they will pay, a standard gap insurance policy will cover whatever the difference is between the market value of your car at the time of loss and the amount owed to your lender.

If you owe $25,000 on your car and the insurance company estimates the market value of your car to be $21,000 at the time of loss, gap insurance would cover the $4,000 difference.

Gap Insurance has one very specific purpose and doesn’t extend to many situations.

Although it may be called “Guaranteed Asset Protection,” the purpose of the policy is to make up the difference in any gaps in coverage, not to insure the entire asset or loan amount.

Gap Insurance only provides coverage when a loss (claim) has occurred and even then it only applies to the remaining balance of your loan.

Other things gap insurance doesn’t cover include:

  • The entire cost of the vehicle is a separate policy added to complement your existing auto policy. It doesn’t replace your current auto insurance
  • Extended warranties
  • Repairs and regularly scheduled maintenance
  • Car payments during times of financial hardship
  • Rental cars while your vehicle is undergoing maintenance
  • Down payment for a new vehicle
  • Carry-over balances from loans you may have rolled into your new auto loan

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How much does gap insurance cost?

Prices vary by company, but most policyholders report paying anywhere from a couple hundred to nearly a thousand dollars per year.

Many insurance companies only offer gap coverage as a rider on an existing auto policy, so it might not be possible to purchase by itself.

When comparison shopping, it may be advisable to check auto insurance quotes with and without gap insurance to determine what the actual cost of the coverage will be.

How long do I need gap insurance?

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Fortunately, Gap Insurance pertains to a very specific risk which typically only lasts for a couple of years.

For this reason, it isn’t necessary to keep gap coverage indefinitely.

Once your car’s market value and the amount of your loan are approximately the same, gap coverage is no longer necessary.

Where can I find gap insurance providers?

While your auto dealership would probably prefer you didn’t know it, many insurance companies do offer Gap Insurance.

However, the major insurers may call the coverage by a different name.

Unlike car dealers who offer gap insurance as a stand-alone policy, many insurance companies make the coverage available only as an added feature to one of their auto policies.

We rounded up a few companies offering this feature to their customers:

  • At Allstate, Gap Insurance coverage is known as New Car Expanded Protection and is available to vehicles up to three years old
  • Liberty Mutual calls their gap coverage Better Car Replacement and goes so far as to offer to pay for a new car with less mileage than the one that was totaled
  • Progressive offers a loan/lease payoff option which will pay up to 25 percent of the actual cash value of your car at the time of loss to help cover the remaining balance owed to your lender

Is gap insurance worth the cost?

This is a question that can’t be easily answered with a “yes” or “no.” In truth, there are many factors that come into play.

The first, namely, is your personal financial situation.

If you have a savings account or rainy day fund that you keep for emergencies, you may have enough accessible cash to cover a gap in coverage.

An alternative to avoid needing gap insurance is to make a large enough down payment on your new car so that your loan balance will never be more than the car’s market value.

Take the time to shop around for the best rate. It’s definitely a coverage you don’t want to be caught without when it’s too late.

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