Gap Insurance Guide

What Is Gap Insurance?

Gap insurance is an optional type of car insurance that covers the “gap” between what a car is worth and what the driver owes on their auto loan or lease if the car is totaled or stolen. Without gap insurance, drivers can be stuck paying the remaining loan or lease balance on a vehicle that they can no longer drive.

Key Things to Know About Gap Insurance

• Gap insurance pays for the difference between what a totaled car is worth and what the driver still owes on their auto loan or lease.
• Drivers should consider getting gap insurance if they made a small loan down payment, lease their car, or have a car that depreciates quickly.
• You can get gap insurance from your car insurance company, loan provider, or dealership. Some of the best auto insurance companies for gap insurance are Travelers, The Hartford and Liberty Mutual.
• Gap insurance costs between $400 and $700 when purchased from a dealership and between $20 and $40 per year when added to a car insurance policy.

How Gap Insurance Works

Gap insurance covers the dollar-amount “gap” between what a car is worth and what is owed on the loan or lease, in the event of a vehicle-totaling accident or theft. Standard types of insurance only cover the actual cash value of the car, so a driver without gap insurance could potentially owe thousands of dollars to their lender.

Example of How Gap Insurance Works

Imagine you buy a $50,000 car with a down payment of $10,000. Three years later, the car is worth $20,000, but you still owe $24,000 on the loan. If the car is totaled in an accident or stolen and declared a total loss, your normal insurance policy will pay $20,000, or the car’s actual cash value, minus your deductible.

If you don’t have gap insurance, you’ll still owe $4,000, and you’ll still have to pay off the car even though you can’t drive it. But if you do have gap insurance, it will pay the $4,000.

Example Breakdown

A gap forms as a result of a car depreciating faster than the loan or lease amount can be paid off. A new car loses about 10% of its value the moment you drive it off the lot, and it depreciates by about 20% within the first year.

Learn more about how gap insurance works.

When Do You Need Gap Insurance?

Gap insurance is not required by state law, but it may be required by lenders and lessors. Purchasing gap insurance may also be a good idea even if it’s not required, depending on your financial situation.

Specifically, you should look into purchasing gap insurance coverage if any of the following applies to you:

You Made a Low Down Payment & Have a Large Auto Loan 

A small down payment results in a bigger gap between what you owe and the car’s depreciated value.

You Lease Your Car

Auto leases have lower monthly payments than loans because the lessee pays much less principal every month. Many leases include gap coverage automatically.

Your Car Depreciates Quickly

Some cars depreciate much faster than others. Sources like Edmunds and Kelley Blue Book can help you compare the expected depreciation of different makes and models.

You Roll Other Products Into Your Auto Financing

Financing extended service agreements, dealer-installed options, or debt from previous auto financing increases what you owe without necessarily increasing the value of your car.

Your Car Has High Mileage

Driving more than 15,000 miles per year speeds up your car’s depreciation.

You Have a Long-Term Loan

Long-term loans almost guarantee that the car buyer will have negative equity for some period of time. The average car loan today has a 72-month term, according to Experian Automotive, and the more time it takes to pay off a loan, the longer it takes for loan payments to catch up with the car’s depreciating value.

Learn more about when you might need gap insurance.

Gap Insurance Cost

The cost of gap insurance varies depending on where you buy it. Dealerships and banks charge a lump sum of up to $700 for gap insurance, making them the most expensive choice. Since the sum is usually added to your auto loan, you will have to pay interest on it, too.

The best deals on gap insurance are generally available from car insurance companies, which charge as little as $3 per month for coverage. Instead of charging a lump sum, insurers include the cost in your regular premium payments.

Learn more about how much gap insurance costs.

How To Get Gap Insurance

You can purchase gap insurance from many car dealers, although these policies are usually quite expensive. Gap coverage may also be available from your lender, and its cost will be included in the total amount you finance with the loan. Similarly, leases commonly include gap coverage or a waiver of “gap liability” by default.

The easiest way to buy gap insurance coverage is through an insurance company. If your current insurance company offers gap insurance, you can add it to your existing policy. However, if your insurer doesn’t offer gap insurance, you typically cannot buy it as a standalone policy from another car insurance company.

Common requirements that you must meet to purchase gap insurance include being the original loan or lease holder and having a car that is not more than two or three model years old.

Learn more about where to get gap insurance.

Insurance Companies That Offer Gap Insurance

*State Farm offers Payoff Protector coverage, which is very similar to gap insurance.

Learn more about the best gap insurance companies.

Is Gap Insurance Worth It?

Gap insurance is worth it if you finance a car with a low down payment, if you have a long-term auto loan, or if you lease a vehicle. It is an affordable way to protect yourself from the risk of a big expense if your car is totaled or stolen. Plus, if you sell your car before paying off the loan and you paid for gap insurance up front, you are often entitled to a refund for the portion of the insurance you didn’t use.

Just be sure to keep track of how much your car is worth using Kelley Blue Book or NADA Guides if you’re paying monthly for a gap policy. Once you owe less than the car is worth, it’s safe to cancel any gap coverage.

Gap insurance is likely not worth it if you have already paid off most of the loan balance, if you made a significant down payment, if the cost of the policy is close to the gap itself, or if you could pay for the gap yourself should your car be stolen or totaled.

Learn more about how to decide if gap insurance is worth it.

Alternatives to Gap Insurance

Some insurance companies offer types of coverage that are similar to gap insurance but differ slightly. One of these alternatives could be better suited for your circumstances, or it might be the only option offered by your current insurance company, possibly necessitating a switch.

New-car replacement insurance. With new-car replacement insurance, the insurance company agrees to replace your vehicle with a brand new one of the same make and model, regardless of its depreciated value, if it is totaled within a certain time after you purchased it.

For instance, Allstate’s new-car replacement insurance will reimburse you for the value of a brand-new car if your vehicle is stolen or totaled before it turns three years old. 

Better-car replacement coverage. With this type of coverage, your insurance company will replace your vehicle with a newer model if your car is deemed a total loss. For instance, with Liberty Mutual’s better-car replacement coverage, Liberty Mutual will replace your old car with a car that is one model year newer and has 15,000 fewer miles if your vehicle is declared a total loss. 

Loan/lease coverage. Loan/lease coverage is similar to gap insurance, as it also helps cover the difference between your car’s ACV and how much is still owed on a loan or lease. However, loan/lease coverage will typically only pay up to 25% of your vehicle’s actual cash value (ACV).

Video: Gap Insurance Guide

Ask the Experts

To gain more insight about Gap insurance, WalletHub posed the following questions to a panel of experts. Click on the experts below to view their bios and answers.

1. Who should purchase gap insurance?
2. Is it better to buy gap insurance through a dealership, lender, or car insurance company?
3. When should drivers drop gap insurance coverage?
4. What should drivers look for in a gap insurance policy?