- So-called gap insurance is meant to cover the difference between the balance of an auto loan and the market value of the car.
- Consumers with a long loan term or a small down payment could be underwater on their loan, leaving a “gap” of thousands of dollars.
If you’re in the market for a new car, it pays to mind the gap — so-called gap insurance, that is.
True to its name, gap insurance is meant to bridge the difference between the balance on an auto loan or lease and the market value of the vehicle, which is what your auto insurance will cover if it’s totaled or stolen. Without coverage, that gap could leave you on the hook for thousands of dollars.
Gap insurance has become more prevalent as car prices rise and financing terms lengthen, said Matt DeLorenzo, managing editor for Kelley Blue Book. The infrequent nature of car purchases means drivers may not have encountered it the last time they bought or leased a car.
“I think it’s under the radar for a lot of folks,” he said.
(Where you may have heard the term recently: The New York Times reported last week that Wells Fargo & Co. is facing regulatory scrutiny over practices related to gap insurance —specifically, that some consumers who paid off their loans early may be entitled to a partial refund of the premium. Well Fargo had flagged the issue in its Form 10-Q filed in early August. A Wells Fargo spokeswoman told CNBC the bank’s investigation is still in the preliminary stages, but it is actively reviewing its policies and working with dealers to improve the refund process.)
“It’s worthwhile to consider for anyone with a new car loan or lease who would be in financial trouble if they totaled their car and could not pay off their loan or lease.”
Experts say auto dealers and financing companies may push for consumers to pick up gap coverage, since that liability becomes the lender’s loss if something happens to the car and the borrower can’t pay. With that in mind, it helps to crunch the numbers to see if gap insurance makes sense, and then shop for coverage before you head to the dealership.
“It’s worthwhile to consider for anyone with a new car loan or lease who would be in financial trouble if they totaled their car and could not pay off their loan or lease,” said Amy Danise, an insurance expert at NerdWallet.
Certain factors — a long loan, a minimal down payment or an expensive vehicle — make it more likely that you owe more than the car is worth, she said. You could also find yourself underwater if you had negative equity on your previous vehicle, and the dealer rolled that balance into your new loan at trade-in, DeLorenzo said.
To estimate the gap, compare the loan balance or lease residual against estimates for the used market value of the vehicle on a site like Kelley Blue Book or Edmunds. Then check to see if your emergency savings could handle that amount should something happen to your car.