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Car Gap Insurance Explained

May 20, 2020 7 minute read
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Daniel Wessels

Car Gap Insurance Explained

What is car gap insurance? 

Car gap insurance, otherwise known as Motor Equity Insurance (MEI) is a type of insurance that covers the gap between what is owed on a loan and the payout amount if the car is stolen or written off during its insurance coverage period. Essentially, it’s considered extra protection for cars with finance still owing on them.

Depending on your financial needs, this could either be an essential or unnecessary extra cost. Like most forms of insurance, it all comes down to what your personal situation is. Making that final call can be tough so it’s important to do your research. To help you understand , we’ve put together this short guide to help cover the basics!

How does it work? 

The concept of car gap insurance is very simple. If you purchase a car under finance or take out a car loan and you completely damage that car as a result of an accident, then gap insurance will help. Car gap insurance will cover the difference between what your car insurance will pay and the amount that’s owed to the car dealer or lender.

If you’re wondering what this amount is, it’s usually the market value of the car around the time of the accident as well as whatever amount is still owed on the car loan. However, there can be exceptions. For example, if you already have an agreed value in your car insurance policy. As a result, car gap insurance is very important when you consider the depreciation of your car’s value over time.

How can you get it?

Getting car gap insurance is pretty simple. Firstly, you will have to be subject to a specific loan contract. This means you’ll also have to take out a comprehensive car insurance policy. Much like any other type of loan policy, it’s best to always shop around before settling on one.

Comprehensive car insurance is a type of policy that would usually grant you full coverage for any damage done to your car or second-party vehicles in the event of an accident. Additionally, comprehensive car insurance policies also for the most part cover incidents such as theft, fire or vandalism.

Case study example: Alex’s insurance gap 

For instance, say Alex has bought a new $14,000 car with a car loan from his car dealer. He discovers that the terms of his loan require him to pay a total of $15,000 to his dealer. Alex insured his new car at its market value with a comprehensive car insurance policy. However, as soon as some payments were finalised, the car became Alex’s and he drove it out of the dealership. The new car is now technically considered a second-hand car and it’s depreciated down to $13,000.

Not long after purchasing the car, Alex unfortunately gets into a car accident. His brand new car is completely written off as a total loss. Luckily for Alex, he had a comprehensive car insurance policy. Following the accident, makes a claim successfully and he then gets reimbursed the current total market value of the car before the accident, which is $13,000. However, Alex has still lost his car and owes the car dealer a total of $2,000.

Alex can use car gap insurance to cover the debt of $2,000 that he must pay to the car dealer. Car gap insurance has been proven useful in such a scenario because without it, Alex would have no car and he’d be in debt. Now although Alex still lost his car, having car gap insurance meant he wasn’t left with no car and outstanding debt.

Car gap insurance: Is it worth it? 

Car gap insurance could help in some situations. For instance, let’s say you desperately need a car for work purposes and you end up with outstanding debt after getting into an accident. You might find that it is a lot harder to try and get the right financing needed to get a replacement car.

However, keep in mind that the usefulness of car gap insurance completely depends on the terms of the policy. Regardless of what type of loan you plan on taking out, it’s important to always pay close attention to its terms and conditions that would be stated in the contract.

Would I be getting any extras? 

You’ll find that some gap insurance policies will offer their customers some extras. For a small extra payment, you can get the following extras:

  • Coverage of any excess payments made
  • The costs of replacing your car in the event your comprehensive policy doesn’t specifically cover it
  • Coverage of delivery charges, and registration
  • Depending on your policy, some might give you the additional benefit of having a pre-approved hire car for up to two weeks.

What to look out for

Here are a few factors to consider before taking out car gap insurance. In particular, you should look out for: 

Payout conditions

Usually, car gap policies will only pay out if there has been a successful write-off claim. So if your car insurance provider for any reason at all decides not to pay the entire sum that’s insured, then the gap insurance won’t apply.

Loan conditions 

Gap insurance is just like a normal insurance policy for your car and it may have certain conditions that are significant. For instance, if the loan you’ve borrowed has a very high-interest rate, then the insurance provider can reserve the right to not pay a claim at all. Here are some reasons as to why your gap insurance provider may not pay out the remaining amount: 

  • The loan you’re paying off has poor terms. For instance, you could be on a certain policy where the loan could be approximately 90% more than the cars market value.
  • The balloon or residual payment is almost  50% more than of the advertised price or the market value of the vehicle at the time you purchased it.
  • Gap insurance will have limits on what the provided policy will payout. This is why it might be a good idea to double check the limit on your. Usually, it should be enough to pay out the full difference between the amount owed on the loan. However, it’s worth checking as this will depend on your car insurance provider.

Insurance conditions

Car gap insurance is usually only available if you have comprehensive car insurance. This means that you may not be eligible for it if you have a cheaper car insurance policy such as third party only or a fire and theft policy. Naturally, this doesn’t particularly apply to every single lender. So, it’s particularly recommended you discuss this with your lender and check to see if you’d still be eligible.

How can I find a car loan policy that would match gap insurance?

Car gap insurance policies will usually cover the car loan. However, some providers may not want to cover certain loans that have strange conditions or super short terms. That’s why it’s definitely worth researching your different car loan options. When you find financing that matches up to the terms of your car gap insurance, here are a few things you may want to consider:

  • Interest rate. You should try to avoid any provider that has an interest rate that’s higher than 10%. Car gap insurance might not even work in this instance. For instance, if the down payment you’ve paid towards your car ends up being less than 20%, then you could be owing well more than what your car is worth.
  • Balloon payments. Some gap insurance policies may not pay out if the payments are excessive. As a result, balloon payments might not be a viable option.
  • Unsecured loans. Given their shorter loan terms and stricter conditions, they might not be ideal in this situation. You’d be hard pressed to find an unsecured car loan from a reputable lender as well!
  • Loan provider. You may wish to avoid getting a loan from car dealers. Many car dealers tend to have hidden costs and may use certain sale tactics such as no interest car loans, to entice business in a major way. Consider opting for a bank or online lender as an alternative.

For more general information on car loans visit the Moneysmart website.

More helpful reads

Enjoyed reading this article? Jacaranda Finance is an online lender offering personal and car financing options. On our blog, we cover a range of topics relating to finance and other current news. Check out our latest stories here or head to our social channels to join the conversation. Get the low down on car loans for students or read up what you should pay off first: Your car loan or credit card.

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Daniel Wessels Avatar

Authoritative Source: Daniel Wessels

Young entrepreneur Daniel Wessels is the CEO and Founder of Jacaranda Finance. Although only in his early thirties, Wessels’ determination and adaptability has led him to successfully pioneer a range of other enterprises both here and abroad.

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