Gap Insurance: How It Impacts Your Car Loan or Lease


  • Mind the GAP

    Mind the GAP

    Having a car totaled or stolen is traumatic enough. The last thing anyone needs is to suddenly pay thousands of dollars for a car they no longer have. | March 18, 2010

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You might have heard of something called GAP insurance and you know it's important for leasing. But you might also wonder what exactly it is and if you need it for other car loans, too.

GAP stands for "Guaranteed Auto Protection." Such insurance is indeed important when leasing, since you don't actually own the car and usually don't put down a large down payment. If you have an accident, your insurance will pay you the current market value of the car, but not the total amount of what you owe the finance company. This leaves a gap in your coverage, and an amount that you still have to pay.

If your $20,000 car is totaled in an accident, you still could owe as much as $5,000, even after your insurance pays your finance company, says Scott Henderson, president and CEO of GapDirect.com.

GAP insurance is a must for leasing. However, if you make a small down payment when you buy a car, you might also need a GAP policy. That's because car depreciation sometimes outpaces your car payments. So if you buy a car for $20,000 and put no money down, the car might be worth only $14,000 a year later, even though you still owe $19,000. If an accident totals your car, you will be responsible for paying the $5,000 difference.

The good news, Henderson says, is that GAP insurance is included in almost all lease contracts. At the same time, he has seen an increase in no-down-payment car loans and has realized that GAP insurance for purchases is becoming increasingly more important, even though most car buyers have neglected it.

Car dealers traditionally sell GAP insurance in the finance and insurance office as the sales contract is being prepared. Dealers typically charge $600 for GAP insurance, though the cost generally grows to a total of $800 over time once you figure the interest that's charged. Henderson's company offers GAP insurance for $185 and it provides coverage for the entire term of the loan.

Leasing companies require GAP insurance, so it is usually included in the contract. If your lease requires a GAP policy but it's not included in your contract, you should shop around for this coverage (some car insurance companies sell it). If GAP coverage is included in the car lease, check to see how much is offered and how much you're going to be paying for it. (In some cases, lease contracts may include a "GAP waiver," which protects you from GAP charges in the event that the leased vehicle is declared a total loss. That eliminates the need for an actual GAP policy.)

To see if you need GAP insurance for a financed car purchase, consider the coverage and the size of your down payment. If you are putting down less than 20 percent on your car purchase, you may need GAP insurance, particularly if you buy a car that depreciates quickly. (Look up depreciation on Edmunds' True Cost to Own). Also, look at how your auto insurance policy is written. If it says the policy will pay off the fully financed amount, then you don't need GAP insurance.

A few things to keep in mind when buying GAP insurance:

  • Although most people purchase it when they begin a lease, some car insurance companies will sell GAP policies any time during the lease term.
  • You must be in compliance with all terms of the lease.
  • Your GAP insurance policy might not be honored if you don't have collision and comprehensive insurance coverage. Furthermore, lease contracts generally require you to carry collision and comprehensive at all times.
  • If someone steals your car or it's totaled in an accident, carefully follow all of the requirements that your auto insurance company makes. For example, some companies require you to continue making car payments on your totaled vehicle until the money from the GAP insurance is paid out.

So when initiating a car loan or lease, always remember to ask your insurance agent or loan officer about GAP insurance. If you have an accident, you'll be glad you planned ahead.

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