How Gap Insurance Works When Your Car Is Totaled

Gap insurance is additional coverage that drivers can purchase to pay off their auto loan after their primary coverage pays out for a totaled or stolen vehicle. This type of insurance is beneficial when a car’s depreciated value isn’t as high as the loan balance.

Gap coverage can be helpful and cost-effective, but it isn’t always worth it. We’ll discuss how gap insurance works, its pros and cons, and what it doesn’t cover.

What Is Gap Insurance?

Not everyone is familiar with gap insurance, since this car insurance term is only relevant to buyers of brand-new cars. It refers to coverage from an insurance agency or car dealership to pay your outstanding loan or lease balance if your car is totaled or stolen and you owe more than the car’s value.

Your insurance policy or lender might describe gap insurance as loan/lease gap coverage. Gap coverage is accessible only to a new car’s original owner or leaseholder. Although it is not required, many car owners who conduct personal insurance planning believe it’s worth the minimal extra cost.

Who Needs Gap Coverage?

A new vehicle will depreciate more than 40% in five years on average. Some cars depreciate more than others, especially luxury vehicles and SUVs. As a result, your car’s value can plummet during the first five years of ownership while your loan balance remains well above your vehicle’s worth.

How much car insurance you need is often based on how much you can afford. Gap insurance is particularly advantageous if you make a minimal down payment, since your loan amount will be higher. A car loan can take five years or more to pay off. The timeframe of the loan increases the chances of losing the car to an accident or theft, leaving you with an insurance payout based on massive depreciation.

Leasing a car presents a similar problem. Your insurance will cover only the car’s depreciated value. In case of loss, gap insurance can cover any additional amount you owe on the lease. Some lenders may require that drivers purchase gap insurance to obtain financing.

How Does Gap Insurance Work?

How car insurance works isn’t always intuitive. Let’s say you buy a new car for $35,000. You pay $5,000 down and take out a loan for the remaining $30,000. A few years later, your car is stolen, and you file an insurance claim. Your car is worth $20,000, but you still owe $25,000 on the car loan. After your policy’s $500 deductible, your insurance pays out $19,500.

At this point, you still owe your lender $5,500 for the auto loan. This is where gap insurance comes in. The policy pays your lender the remaining amount due, thereby erasing the debt.

How Gap Insurance Works After a Car Is Totaled

Here’s another example. Let’s say that your car gets totaled in an accident. A vehicle is “totaled” when the required repairs cost more than what the vehicle is worth. Your insurance company provides a payout for the car’s current value.

As in the case of theft, your insurance will send a payout minus the deductible (learn about the types of deductibles in insurance). But you’re still on the hook for the remainder of your car loan. Gap coverage relieves you of that responsibility, potentially saving you thousands of dollars.

Recommended: How Much Does Insurance Go Up After An Accident?

Pros and Cons of Gap Insurance

Gap insurance offers several benefits:

•   Coverage to satisfy your auto loan in full in the event of theft or total loss of the vehicle

•   Inexpensive with most insurance companies

•   Provides coverage if you can only afford a small down payment on a new vehicle

•   Is particularly useful for rapidly depreciating cars

However, it may not be worth it if:,

•   Your vehicle doesn’t end up getting totaled or stolen

•   It increases your insurance premium, which it will

•   You made a significant own payment on your car, shrinking your loan amount

•   You rarely drive

How to Choose the Right Gap Insurance

Most car dealerships sell gap insurance, but you’ll pay far less if your car insurance company adds gap coverage to your policy. Your gap insurance and comprehensive coverage will typically come from the same company.

Before purchasing comprehensive coverage for a new vehicle, ask the insurance company if it provides gap insurance. Some companies, such as GEICO and Farmers, don’t offer it.

Gap coverage from an insurance company costs about $60 annually. At a car dealership, you can pay up to $600 for a similar policy. Although you can add that cost to your auto loan, you’ll increase the interest you’ll pay.

The company you choose and the level of coverage you need will affect the price of your gap insurance.

When to Cancel Your Gap Coverage

Once you pay off your auto loan, there’s no reason to keep your gap coverage, as you won’t owe your lender anything if you total your car. However, even if you’re only midway through paying off your loan, canceling gap coverage might still make sense.

For example, assume you have $5,000 remaining on your loan. You look up your car’s estimated value on Kelley Blue Book and discover that it’s worth about $4,500. It may make sense to drop your gap insurance and risk the minor $500 financial hit if the car is totaled or stolen.

Selling or exchanging your car is another reason to cancel your gap insurance, but make sure your insurance covers your car until the day you sell it. Otherwise, an accident could cost you thousands of dollars.

If you do cancel your gap coverage, you may qualify for a partial refund. For instance, when you pay off your loan early, and the gap coverage was included in the loan, you can potentially request a refund of any prepaid premiums.

What Gap Insurance Doesn’t Cover

Gap insurance can be incredibly useful in certain situations, but there are expenses that the policy won’t cover:

•   Your comprehensive policy deductible

•   Down payment for a vehicle

•   Extended warranties

•   Late payments and related fees on your auto loan or lease

•   Security deposits

•   Lease penalties

•   Carry-over amounts from prior loans or leases

•   Credit insurance charges for your auto loan

How to Save Money on Gap Insurance

Gap insurance policies are usually affordable when purchased from a traditional or an online insurance company. But you can offset the extra cost by following these steps:

•   Shop around: Remember, your comprehensive, collision, and gap coverage usually come from the same company, but not all insurance companies offer gap coverage. Ask about gap coverage availability and pricing before picking a policy.

•   Look into discounts: You may be eligible for reduced car insurance rates if your projected mileage is low or you have a safe driving record. Learn more about how to lower your car insurance.

•   Sign up for voluntary tracking: Your insurance company may offer a lower overall auto insurance premium if you allow them to install a tracking device in your car. You’ll have extra incentive to drive sensibly if you’re saving money.

•   Pay annually or biannually: Monthly payments for auto insurance often cost slightly more. If you can cover the annual bill upfront, you’ll reduce the total amount you pay.

Is It Worth Getting Gap Coverage?

Because gap coverage is typically inexpensive, it’s often worth purchasing it if you have a new vehicle. It may save you thousands in the event of a bad accident or car theft. Plus, if you’ve recently received your license, purchasing gap coverage is part of the essential insurance tips for first-time drivers.

However, the lower your loan balance, the less valuable gap coverage becomes. Over the years, the gap between your loan balance and your car’s value can narrow.

The Takeaway

If you’re purchasing or leasing a brand-new car, you’ll likely find gap coverage worthwhile, especially if you made a minimal down payment on your vehicle. New vehicles depreciate rapidly in the first few years of ownership, potentially leaving the owner with a loan balance that’s higher than the vehicle is worth after an accident or theft. Auto insurance only pays out the vehicle’s market value, while gap insurance can save drivers thousands for only a few dollars a month. You can also cancel gap coverage if you no longer need it.

When you’re ready to shop for auto insurance, SoFi can help. Our online auto insurance comparison tool lets you see quotes from a network of top insurance providers within minutes, saving you time and hassle.

SoFi brings you real rates, with no bait and switch.

FAQ

Does gap insurance give you money?

Gap insurance pays off your car loan after your main coverage pays you the actual value of your totaled or stolen vehicle. This is important because depreciation can result in a loan balance that’s higher than the vehicle’s value.

Do you need car gap insurance if you have full coverage?

Full auto coverage will pay out your car’s actual market value. However, since your loan balance may be higher than your car’s value, especially in your first few years of ownership, gap insurance is advisable on top of full coverage.

How long does it take to get a gap insurance refund?

After you cancel your gap coverage, your insurance company will send you a prorated refund. This refund will generally comprise the coverage you didn’t use.

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