GAP Insurance: What Is Gap Insurance And Why Do You Need It?

Most of us are not lucky enough to be able to fork over cash for a new car.  We are forced to put down what money we can, and take a loan for the rest.  But it’s worth it for those new wheels, right?  If your downpayment is a small one, (usually under 20%), your monthly payments are sizable due to high interest rates, or you are leasing the car, you will want to consider purchasing gap insurance.

GAP insurance, (Guaranteed Auto Protection), is sold by many auto insurance companies, and pays for what traditional car insurance does not. It covers you for the difference between your car’s value, and what you owe on it if you have an accident that totals the car, or the vehicle is stolen.  If you are making payments on the vehicle, and you owe more than its value, your GAP insurance will cover the difference. 

How does it work? 
Here’s an example:
Suppose you buy a new car for $20,000.  You put $1,000 down and you have payments of $300 a month.  A year after buying the car, you are involved in an accident in which your car is “totaled” (so damaged that fixing it would cost more that the car is worth).  You have paid a total of $4,600 on the car so far ($1,000 down plus $300/month x 12 months), so you still owe $15,400 ($20,000 - $4,600).  The insurance company, in its infinite wisdom, has determined that the car’s value is only $13,000.  The difference between what you owe on the car loan and the value of the vehicle is $2400.  Without GAP insurance, that $2400 will come out of your pocket to pay off the car, with the $13,000 paid by your insurance company.  With GAP insurance, your insurance company will take care of the $2400 for you.  Note that if your deductible applies, that is, the accident was your fault, the deductible amount will come out of your pocket with or without gap insurance.  GAP insurance does not cover your deductible.

Who needs gap insurance?
It sounds like gap insurance is a pretty good idea.  Why wouldn’t you want it then?  It only makes sense if you expect to owe more on the car loan than the car is worth (referred to as being “upside down”).  If you are not able to afford a large downpayment, and you buy a car that depreciates rapidly, (they begin to depreciate as soon as you drive them off the lot), or you are paying a high interest rate, or you are rolling some other expenses into the car loan, like money owed on a trade-in, it makes sense to carry GAP insurance.  If you are “right side up,” however, that is, you make a healthy down payment on the car, and do not foresee owing more than it is worth, GAP insurance is not necessary.

If you are leasing a vehicle, you are still responsible for the car if it is totaled or stolen just as if you had purchased it.  In fact, many lease contracts require GAP insurance, and some include it.  If a GAP policy is required but not included in your contract, you should shop around for this coverage. If GAP coverage is included in the car lease, check to see how much is offered and how much you are going to be paying for it. In some cases, lease contracts may include what is known as a GAP waiver, which protects you from gap charges in the event that the leased vehicle is declared a total loss — eliminating the need for a GAP policy.  I know you all hate to do this, but READ THE CONTRACT!  Know what you are responsible for and if you have to purchase it on your own. Then do your homework.

Whether your car is leased or purchased, if you are making payments and you owe more than the car is worth, or will in the future, you need GAP insurance.  Don’t wait until it’s too late.