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What is Gap Insurance? The Comprehensive Guide to Understanding Gap Coverage

Gap insurance, also known as gap coverage or gap protection, is an optional add-on auto insurance policy that helps protect car owners from losses that can occur when their car is totaled or stolen. Gap insurance covers the difference between what your auto insurance company pays for your totaled vehicle, and what you still owe on your car loan or lease. This guide will explain everything you need to know about gap insurance, including how it works, who needs it, and whether it's worth the cost.

The Comprehensive Guide to Understanding Gap Coverage
What is Gap Insurance?

How Does Gap Insurance Work?

Gap insurance is designed to pay the gap between your primary auto insurance settlement and the remaining loan balance you owe on your car. Here's a quick overview of how gap coverage works when you suffer a total loss:
  • Your car is totaled or stolen and declared a total loss by your auto insurance company. They determine the actual cash value (ACV) of your vehicle and send you a settlement check for that amount.
  • If you owed more on your auto loan than your car was worth, there will be a "gap" between what your insurance paid and what you still owe the lender. This gap is typically several thousand dollars.
  • Gap insurance steps in to cover the remaining loan balance, waiving the difference so you don't end up making payments on a car you no longer have.

Without gap coverage, you'd have to come up with the cash to pay off the loan balance yourself or continue making monthly payments for a car you no longer have. Gap insurance protects you from this financial loss.

Who Needs Gap Insurance?

Gap insurance is most beneficial for:
  • New car buyers - New cars depreciate quickly. If it's totaled in the first couple years, your insurance settlement may not cover the remaining loan balance. Gap insurance protects against this rapid depreciation.
  • Leased vehicles - With a lease, you must return the car in good condition at the end of the lease term. Gap coverage waives any remaining payments if it's totaled or stolen.
  • Buyers who made a low downpayment - The more you put down upfront, the less risk you carry of ending up "upside down" on the loan. Smaller downpayments mean gap coverage provides more value.
  • Drivers who accumulated negative equity - Rolling over negative equity from a previous car onto a new loan increases the gap risk. Gap insurance becomes important protection in these scenarios.

If you put at least 20% down and keep your loan term short, you may not need gap insurance. But for most car buyers and lessees, gap coverage is a smart purchase. Read also: What is Third Party Car Insurance?

How Much Does Gap Insurance Cost?

Gap insurance rates vary by state, lender, and coverage limits selected. On average, expect to pay $300 to $700 for a gap policy. Here are some factors that impact costs:
  • Where you buy it - Buying directly from your auto insurance company is often cheaper than the dealer or lender. Credit unions tend to offer the lowest rates.
  • Coverage limits - Most gap policies cover up to 125% of the vehicle's value. Higher limits cost more but provide more protection.
  • Loan length - Longer loan terms present more risk, so gap rates are higher on 5-6 year loans compared to 3-4 year terms.
  • Your location - States like Florida and Texas with higher accident rates have pricier gap insurance premiums.

While not cheap, gap insurance costs just a few dollars per month in most cases - worthwhile protection for a few bucks a month.

What Does Gap Insurance Cover?

Gap policies vary, but most provide the following key coverages:
  • Remaining loan/lease balance - Primary coverage pays the gap between insurance settlement and remaining loan balance if vehicle is totaled.
  • Deductible reimbursement - Covers your auto insurance deductible, often up to $1,000.
  • Replacement vehicle - Some plans cover a portion of the cost of a replacement vehicle.
  • Rollover protection - Covers gap on your previous loan that was rolled into the current auto loan.
  • Lease early termination fees - Waives lease termination charges if the vehicle is totaled and can't be returned.

Double check your individual policy, but those are some of the most common gaps filled by this coverage.

When Does Gap Insurance Pay Out?

Gap insurance provides protection when your vehicle suffers a total loss from an incident covered by comprehensive or collision coverage. This includes:
  • A major accident where the vehicle is totaled
  • Theft or carjacking
  • Fire, flood, or other disasters that destroy the vehicle
  • Vandalism or damage from falling objects like trees

The total loss settlement from your auto insurer triggers gap insurance to activate. Note that gap coverage only pays in the event of a total loss - it does not apply to repairs or minor damage claims.

Gap Insurance vs. Auto Loan/Lease Coverage

Lenders and leasing companies often offer their own gap coverage when you purchase or lease a vehicle. This dealer gap insurance can seem convenient, but is often overpriced.

Independent gap coverage purchased from your auto insurer or credit union is almost always a better value. Here's why dedicated gap insurance plans are preferable:
  • Much lower cost - Lender coverage can cost 2-3x more than policies from other providers.
  • Better coverage - Most lender plans just cover the remaining loan balance, while independent gap policies include extras like deductible reimbursement.
  • Easier cancellations - Cancelling lender gap insurance can be a hassle compared to cancelling an independent policy.

Unless your lender offers an unusually good deal, go with a standalone gap policy from your insurer or credit union instead.

How Long Should Gap Insurance Coverage Last?

Most experts recommend keeping gap insurance until you reach 20% equity in your vehicle. At that point, your standard auto insurance settlement would likely cover the remaining loan balance if it's totaled.

Follow this simple guideline for optimal gap insurance coverage duration:
  • Keep full gap coverage for the first 2 years of your loan or lease
  • After 2 years, consider dropping to buyback gap insurance if offered. This covers a smaller amount but costs less.
  • Once you reach 20% equity in the vehicle, gap insurance is likely no longer needed.

Gap insurance providers will automatically cancel your policy when your loan term ends. Just be sure to reevaluate your coverage every couple years to ensure you're not overpaying.

Shopping for the Best Gap Insurance Rates

Like regular car insurance, pricing can vary widely between gap insurance companies. Follow these tips to get the lowest quotes:
  • Check with your auto insurer - They often offer discounts for bundling gap with your existing policy.
  • Compare quotes from credit unions - Many offer gap insurance to their members at low group rates.
  • Avoid the dealer/lender - Their gap coverage will be expensive; shop around instead.
  • Ask about discounts - See if you qualify for any multi-policy, auto club member, or anti-theft discounts to lower your rate.
  • Raise your deductible - Just like regular insurance, higher deductibles bring cheaper gap premiums.
  • Limit loan length - Shorter 3-4 year loans cost less to insure than 5-6 year terms.
With a little shopping around, you can likely find gap coverage for under $500 - worthwhile protection at an affordable price. Read also: Understanding Comprehensive Car Insurance.

Can You Cancel Gap Insurance?

Yes, gap insurance can be cancelled at any time by providing written notice to your gap insurer. However, you normally won't receive a partial refund - cancellation policies vary by state and company.

It's recommended you keep gap until reaching 20% equity in your vehicle. But if you pay off your loan early or have another situation making gap unnecessary, cancellation is simple. Just contact your provider - you won't need to continue paying for coverage you don't need.

Is Gap Insurance Worth It?

Gap insurance provides valuable protection against a significant financial loss at a reasonable price. For most car buyers and lessees, gap coverage is an excellent investment:

Pros of Gap Insurance

  • Protects against owing thousands on a car you no longer have
  • Peace of mind in case of total loss from an accident or theft
  • Typically costs less than $500 for 1-3 years of coverage
  • Prevents credit damage from defaulting on auto loan balance
  • Easy to purchase from auto insurer, credit union, or other provider

Cons of Gap Insurance

  • Not needed if you make a large downpayment
  • An extra cost on top of your auto loan payment
  • Doesn't cover mechanical breakdowns or minor damage
Unless you have substantial equity in your vehicle, the pros heavily outweigh the cons. Gap insurance provides vital financial protection at an affordable price. For most drivers, gap coverage is a smart purchase that can prevent a significant burden if catastrophe strikes.

Frequently Asked Questions About Gap Insurance

Still have questions about how gap coverage works and whether it makes sense for your situation? Here are answers to some frequently asked questions about gap insurance:

1. When should I buy gap insurance?

The best time to buy gap insurance is right when you purchase or lease your vehicle. This ensures you'll have coverage immediately. Gap insurance can be added later, but it's optimal to enroll upfront for full protection.

2. Which gap insurance company is the best?

Major insurers like Allstate, Geico, and State Farm all offer competitive gap insurance rates. Purchasing directly from your existing auto insurance provider can simplify bundling. Many credit unions also offer affordable gap coverage. Ultimately you'll want to compare quotes from a few providers to find the best rate.

3. Does my auto insurance cover the gap?

Unfortunately, the gap between your loan and insurance settlement is not covered by standard auto insurance. Collision and comprehensive coverage pay based on actual cash value of your car - they do not account for what you still owe the lender. That's where dedicated gap insurance becomes essential.

4. Can I get a refund if I cancel gap insurance?

Gap insurance refunds are rare, but possible in some states. Most gap policies are non-refundable - you pay for the full policy term upfront. But canceling is easy if your situation changes. You'll simply stop payments once you notify the insurer in writing. No need to keep paying for unnecessary coverage.

5. Is gap insurance required?

Gap insurance is not legally required, but lenders may require proof you have gap coverage if you make a very low downpayment. It's optional protection, but highly recommended for most buyers to protect from a large loss. Many lease contracts also require gap insurance.

6. Does gap insurance cover my auto deductible?

Many, but not all, gap insurance plans will reimburse your auto insurance deductible up to a set limit, often $1,000. Double check your specific policy - if it includes deductible coverage, this provides extra protection.

7. How much gap insurance do I need?

A basic policy that covers your remaining loan balance plus a bit extra is sufficient in most cases. Limiting the coverage to 125% of your vehicle's value keeps premiums affordable. Only opt for more protection if you have negative equity or borrowed more than the car's worth.

The Bottom Line on Gap Insurance

Gap insurance provides vital financial protection for car buyers and lessees by covering the gap between your auto loan and insurance settlement. While an optional purchase, gap coverage gives invaluable peace of mind in case the worst happens to your new vehicle.

For only a few hundred dollars, gap insurance prevents the significant expense of paying off a totaled car you no longer own. While you hope to never need it, gap coverage is a wise investment that could save you thousands down the road in the event your vehicle becomes a total loss. For most buyers and lessees, gap insurance is an affordable necessity.


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