How Does Gap Insurance Work?

What is GAP Insurance?

• GAP stands for Guaranteed Auto Protection. It is an optional type of auto insurance that is available in many states if you still owe money on a new or used vehicle. GAP insurance offers protection against financial liability for those who have financed a vehicle which the market value or actual cash value (ACV) is less than what is owed on the loan.
  
  Gap insurance will insure a person for the difference between what you would owe on a vehicle and what an insurance company says it is worth. This insurance is vital for someone who is considering purchasing a new vehicle since a new vehicle depreciates right after it is driven off the dealer's lot.
  
  Depending on the policy, Gap insurance usually covers accidents and thefts, but not all policies are the same, therefore, it is a good idea to evaluate the coverages being offered before purchasing Gap
  insurance.
  
  GAP insurance can provide valuable protection during the early years of your car's life if you have a loan or a lease. If a loss occurs, GAP insurance will pay the difference between the actual cash value of the vehicle and the current outstanding balance on your loan or lease. Sometimes it will also pay your regular insurance deductible.
  
  

How Does a GAP Occur

• You choose a car that costs $25,000 and you drive it off the lot.
  
  After paying the down payment you owe $24,000 in car payments over 5 years (0% interest loan = $400 car payments).
  
  You purchase physical damage insurance (comprehensive and collision) with a $500 deductible to protect you against damages and loss.
  
  You have an accident while you are still upside down on your loan or lease ("Upside down" means owing more on a car than it's worth) and your vehicle is totaled.
  
  The insurance company determines that the actual cash value of the car is only $22,000, but at the time of the loss you still owe $23,500.
  
  GAP insurance should pay the difference plus your deductible totaling $2000. (Not all GAP policies pay the deductible.)
  
  

Understanding How GAP Insurance Works

• To understand how GAP works, consider the following hypothetical situation:
  
  You purchased a vehicle for $28,000, after one year the market value of your vehicle is down to $21,000 and you owe $25,000 on your loan. That would leave a gap of $5000 that you would be responsible for if your car was stolen or declared a total loss from an accident and you were to receive actual cash value as a settlement on the vehicle. GAP insurance (that paid for your deductible as well as the difference) would cover the $5000. Without the GAP policy, you would be responsible for for paying the additional money ($5000) to your lien holder.
  
  

Important Tips to Note

• Most lending companies who finance cars do require full coverage insurance but not Gap insurance, so the owner would have to pay the depreciation difference if they had a total loss of their vehicle and chose not to add Gap insurance to their policy.
  
  Usually Gap insurance is built into the lease but, don't assume it is since every lease is different.
  
  Most dealerships will offer Gap insurance but usually at a high premium. Before deciding to buy additional insurance, in any situation, always make sure you are not already covered by current insurance policies.
  
  Before deciding to purchase a new vehicle, check with your current insurance provider about Gap insurance. It may already be built into the premium. If it is not, Gap insurance can usually be purchased for a reasonable additional cost. Some auto insurers do not offer Gap insurance at all. It this case, try to first find a Gap insurance policy from another insurer before buying it from the dealer--the dealer's premium may be more expensive.
  
  

Exclusions/Policy Rules Concerning GAP Insurance

• It is paramount that you remember these possible exclusions/policy rules:
  
  Maximum Limit of Loss is $50,000;
  
  A GAP claim settlement may not cover the entire gap due when your loan's Original Amount Financed exceeds 120 percent of MSRP (new vehicle) or NADA Retail Value (used vehicles), plus 30 percent of value allowable for additional financed items like Credit Life or service contracts.
  
  The claim settlement does not cover late charges or other penalties due to your lender.
  
  Your loan amount financed must be less than or equal to $100,000.
  
  Your loan term must not be greater than 84 months.
  
  The loan must not have a balloon payment due at the end of the term.
  
  The maximum APR is 12.5 percent.