The only asset that appreciates is land. Sadly, appreciation is the total opposite when it comes to cars because their values depreciate significantly fast. You can even say that the value of cars drop so fast as soon as they are bought and driven off the sales lot. Still, there’s nothing we can do about it, and we are even accepting of the fact that with that depreciation still comes 5 or so years’ worth of monthly payments just to finally own that car. But then, what would happen if the car you just bought would be totaled in a vehicular accident just a few days, weeks, or months after you bought it? Here lies the important of understanding GAP insurance.
To understand the concept behind GAP insurance, let us illustrate a hypothetical scenario. Let us say that you just got yourself in a car accident and your vehicle was totaled or irreparably damaged. The car insurance policy that you took out would then pay you the ACV or the actual cash value of your car. This value would already be at the time of the accident already, which means your car’s value will have depreciated already. To calculate ACV, you determine the replacement cost of your vehicle, then subtract depreciation from that value. As soon as you have determined your car’s ACV, ask yourself which is higher – your ACV or the amount that you still owe your bank or other lending institution?
Obviously, there will be cases where the ACV would be lower than the amount you owe. Let us say you took out a 3-year loan for your car and you still owe your bank $15,000. At the time the accident occurred, your car’s ACV is computed, which now amounts to just $10,000. The insurance company would then pay you just $10,000, and you then have a gap of $5,000.
Now, your car might have been irreparably damaged but this does not mean you stop making your monthly payments. You are still required by law to continue paying until the loan is completely paid off. Here is where the benefit of GAP insurance sinks in. By taking out GAP insurance, your auto insurance policy would then pay off that gap of $5,000 for you. Thus, you no longer have to continue making those painstaking payments, which is very beneficial because you do not have to pay for a car you are no longer using. If you are considering taking out a car loan, then do not forget to inquire about this type of coverage.