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How Gap Insurance Works

This is insurance you purchase on your own to protect you in case your car is totaled in an accident. Gap insurance covers the difference between what the car is worth and what you owe on the car. For example, if Tom crashes into Bob's pickup truck, Tom's insurance company is only obligated to pay Bob the fair market value of the truck. Let's say the truck is worth $10,000, but Bob owes $12,000 to the bank. Tom's insurance company is only obligated to pay Bob $10,000. Gap insurance covers the $2,000 difference, so Bob will not be out any money on the total loss of his truck. If Bob didn't have gap insurance, he would still have owed the bank $2,000.

If you owe money on your car, gap insurance is great to have. The day you drive your car off the lot, you're probably already upside-down on your loan. If you have gap insurance and you total your car, then you will not have to continue making payments for a car that you no longer own.

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