Gap Insurance
Insurance coverage that pays the difference between what you owe on a car loan or lease and the vehicle's actual cash value if it's totaled or stolen. This 'gap' often exists because cars depreciate faster than loan balances decrease.
Example
“Sarah's gap insurance paid the $8,000 difference when her totaled car was worth $15,000 but she still owed $23,000 on her loan.”
Memory Tip
Remember 'GAP' as 'Getting Around Payment' problems when your car is worth less than you owe.
Why It Matters
Gap insurance prevents drivers from owing thousands of dollars on a car they can no longer drive. This is especially important for new car buyers, as vehicles can lose 20-30% of their value in the first year alone.
Common Misconception
Many people believe their regular auto insurance will pay off their entire loan if their car is totaled. However, standard insurance only pays the car's current market value, not the outstanding loan balance, leaving drivers responsible for the difference.
In Practice
John buys a $30,000 new car with a $28,000 loan. After 18 months, he owes $24,000 but the car is worth only $18,000. When the car is stolen, his comprehensive coverage pays $18,000 to the lender, and gap insurance covers the remaining $6,000 balance. Without gap insurance, John would owe $6,000 on a car he no longer has.
Etymology
The term 'gap' literally refers to the financial gap between the loan balance and the car's depreciated value. It became common in auto financing during the 1980s as longer loan terms created larger depreciation gaps.
Common Misspellings
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Related Terms
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See Also
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