How Gap Insurance WorksBy
So many people have to buy cars on credit. They take out a loan and make payments over a number of years until the vehicle is paid off. But many do not think about what would happen if the car is totaled in a car accident and you are upside down on the vehicle loan. The insurance company is only required to pay the fair market value of the vehicle which might be less than the balance left on the car note. That is why you should consider buying gap insurance. Gap insurance covers the “gap’ between the fair market payout of the vehicle and the loan balance.
Let’s say you buy a car for $20,000 and finance $18,000. In about a two years, that vehicle might only be worth $12,000; but you might still might have a $14,000 balance on the loan. If you get into an automobile accident and that vehicle is declared a total loss, then you would be upside down by $2,000 between the car’s value and the loan balance. Gap insurance covers that difference.
Essentially, gap insurance will pay off the “gap” between the total loss payout and the loan balance. This will leave you with a zero loan balance on the car loan leaving able to go and purchase another car with a new loan.
I always recommend that people buy gap insurance. It is not very expensive and will come in quite handy if you need it.