What is auto insurance and how does it work?

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Here's what you need to know...
  • Auto insurance is a product that provides vehicle owners with financial protection when they own a vehicle or are driving a vehicle
  • Unlike other types of insurance sold, auto insurance is a form of financial protection that is mandatory in most state
  • If you live in a state with a no-fault system, you must carry first-party benefits called Personal Injury Protection
  • In states where Uninsured Motorist Protection and Medical Payments coverage is required, you can  sign a rejection form electing not to carry the coverage
  • If you have a loss and you have the appropriate coverage, you can file a claim

Auto insurance is more than just a product; it’s a contract. Since you’re entering into a legally binding contract when you buy insurance, it’s important to understand what you’re buying and how the policy works.

By learning about the purpose of insurance, state requirements, the coverage options available, and how to use your coverage, you can equip yourself with the knowledge that you need to be an informed consumer.

Part of being informed is comparing your rates regularly. Start today by entering your zip code into our FREE comparison tool above!

What is the purpose of auto insurance?

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Driving a vehicle can be risky. No matter how safe of a driver you think you are, any given outing can result in a loss.

Since you could be liable for thousands of dollars for damages after a minor accident, drivers need a form of protection, which is why auto insurance is critical.

If you live in a state with a fault-based system, you must buy third-party coverage options that pay for medical bills and repairs

Auto insurance is an indemnity contract designed to protect the policyholder against financial loss.

By purchasing a policy, you are entering into a contract with the insurer.

When you accept an offer for insurance, you agree to pay the company and the company agrees to pay for the losses according to the insuring agreement.

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Why is auto insurance required by law?

Auto insurance is required by law in every state by Virginia, Iowa, and New Hampshire.

While every state has their own mandatory limit requirements, the fact that you must purchase and maintain insurance is a must if you want to comply with state laws.

It might seem odd to think that the state can require a driver to buy a product that will compensate for a loss, but the requirements are in place to protect other parties.

The purpose of auto insurance requirements set by the state is typical to make someone exempt when they are liable for third-party damages.

Obtaining a driver’s license requires skill. To demonstrate that you know the rules of the road, and you’re capable of exercising caution, you must pass a licensing test.

Unfortunately, there’s not a test that you can pass to show that you can pay for damages you cause behind the wheel.

State Coverage Requirements Depend on the System the State Operates Under

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If you’re interested in finding out how much coverage you must have by law, you need to compare different insurance systems. States will either run under a tort insurance system or a no-fault insurance system.

Here’s a breakdown of how the two systems differ:

– Tort Insurance System

Under a tort system, anyone who owns a vehicle is liable for paying for the damages that they cause.

If you’re 51 percent at fault for a loss, you will make a claim against your own insurance to pay for third-party medical bills or property damage repairs.

This is why some people refer to tort systems as fault-based systems.

– No-Fault Insurance System

Under a  no-fault system, claims for personal injury are settled by making a claim for your own benefits, which is true regardless of who is at fault for the loss.

The purpose of this unique type of system is to reduce the state’s reliance on the court system to settle auto accident claims.

What type of coverage is required in a tort state?

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A majority of states use fault to determine which insurance company is responsible for paying for damages. If you live in a fault-based state, you must carry liability insurance with limits that satisfy the requirements.

Here’s a breakdown of common requirements:

  • Bodily Injury Liability – Pays for third-party medical bills that accrue when you are liable for an accident that results in injuries
  • Property Damage Liability – Pays to repair property that’s owned by other parties if you’re determined to be liable for an auto accident
  • Uninsured Motorist Protection – Pays for your medical treatment costs and hospital bills if you’re in an accident with someone who has no insurance (only required in some states)
  • Medical Payments Coverage – Pays for your immediate medical bills if you are injured in an auto accident as a driver, pedestrian, passenger, or bicyclist (only required in some states)

What type of coverage is required in no-fault states?

There are currently nine states that have some modified form of no-fault laws. Since the allocation of fault is used to determine how damages are paid, no state has a pure no-fault system in place.

Here are common coverage requirements in the no-fault states:

  • Personal Injury Protection – Pays for first-party medical bills, rehabilitation costs, income replacement, and services after you’re injured in a loss
  • Property Damage Liability – Required in no-fault states
  • Bodily Injury Liability – Pays for medical bills if you’re in an accident with an outsider or you cause serious injury (not always required in no-fault states)

Other Forms of Coverage That You Can Purchase

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As an auto insurance consumer, you’re allowed to add coverage options to your policy for more protection. You can even raise your liability limits to protect your income and assets against unfounded claims.

Here are some of the options to consider carrying if you want more protection:

  • Comprehensive – Pays to repair your vehicle if it’s damaged after a non-collision loss like fire, theft, or vandalism (required when car is financed)
  • Collision – Pays to repair your vehicle if it’s damaged in a collision (required when car is financed)
  • Rental Car – Pays a daily coverage benefit to rent a car after a covered physical damage loss
  • Guaranteed Auto Protection (GAP) – Pays the difference between what your car is worth and what you owe on your car loan when your car is totaled
  • Towing – Pays for towing to a specific site or the nearest repair shop when your car is disabled
  • Roadside Assistance – Pays for gas delivery, battery jump, tire changes, or lockout

How do you use your insurance?

You only ever really need to understand how auto insurance works when you have a loss. While it’s something you never want to experience, brushing up on the claims process before you ever need to file one can be helpful.

By doing your homework, you will feel comfortable when you need to report an accident.

To use your benefits, you need to call your insurance agent or the claims department. Once you provide your policy information, you will report the claim and the representative will ask for a statement

When you provide the necessary information, the adjuster will review the file, investigate, and your coverage to verify your policy covers the loss.

If the other insurer is responsible, then the adjuster will communicate with the carrier to ensure that you’re compensated promptly.

It’s crucial that you keep your insurance active at all times. If you don’t have insurance now, it’s time to get coverage.

Premiums vary by company. Since some companies charge less than others, use our FREE online comparison tool to get instant quotes in minutes!

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