If you buy a brand new vehicle, you probably want to make sure that it is well insured. And while traditional “full coverage” will protect your vehicle, you might not be content with only being covered up to the depreciated value if your new vehicle is totaled in an accident or other loss.
Depending on what your insurance company offers, you likely have one, and possibly two, options to enhance this coverage on your new vehicle. Most companies offer Loan or Lease Gap coverage and a number of companies are beginning to offer New Car Replacement coverage as well. So which is better, or do you need either?
First, Gap coverage is designed to pay off the loan or lease on your vehicle if you owe more than the current value at the time of a total loss. If you didn’t make a large down-payment or receive much in the way of trade-in credit when you bought your vehicle, you could find yourself becoming “upside down” on your loan shortly after your new vehicle is purchased, due to the initial depreciation that often occurs when you drive it off the lot.
New Car Replacement coverage, however, is designed to pay what it will cost to replace your used vehicle with a new, current model year vehicle of the same make, model and options. Assuming that your loan balance is not more than the cost of a new vehicle, New Car Replacement will pay more for a total loss than Gap will.
Let’s say you bought a new Ford Escape nine months ago for $27,000. You paid $1000 down and financed the rest over six years. You added it to your insurance with a $500 deductible. Last week you were broadsided by another vehicle and your Escape was totaled. At this point, you still owe $23,000. Meanwhile, a new 2017 Ford Escape will cost $28,000. The insurance company appraises your vehicle at $21,000.
If you only chose basic “full coverage” for your vehicle, all you would get in this case is $20,500 (the appraised value minus your deductible), and you'll have to come up with $2500 out of pocket to payoff your loan. Or you may be able to roll this shortfall into a loan on your next vehicle, making you start even further “upside down” on your new loan.
If you chose Gap coverage, your insurance claim would pay $22,500 (the balance of your loan minus your deductible), leaving you only your deductible out of pocket to pay off your loan.
However, if you purchased New Car Replacement coverage and it is still in effect, your policy will pay $27,500 (the cost of current year's model minus your deductible). You’ll pay off your loan balance and still have around $4500 left as a down-payment on your next vehicle. If you do want a new Escape, you’ll be back in the position you started (minus your deductible) with a loan balance around $23,500.
Let’s take this same example and say that either you had paid cash for your 2015 Escape or you have already paid off the loan on it when your accident occurred. In that case, obviously Gap coverage would provide you no benefit at all, while New Car Replacement coverage will put you right back in the position that you started – with a brand new vehicle and no loan on it, after writing a check to the dealer for the amount of your deductible.
As you can see, New Car Replacement coverage will almost always pay better than Gap coverage. It might also cost a little more. Check with your insurance company, but on average, you might pay $2 to $5 per month for Gap, versus $4 to $8 a month for New Car Replacement.
With some carriers, you may be able to buy both Gap and Replacement together. This might be important, depending on how long your carrier allows you to keep New Car Replacement on your policy, which can vary from one to five years.
Since New Car Replacement is not yet a standardized coverage, there may be significant differences in how the coverage works between one carrier and the next; coverage may even vary from what is described here. Also, there can be restrictions on how much Gap coverage may pay as well. You should ask your insurance agent for specific information about what your carrier offers and read your policy contract carefully.
For simplicity of understanding, the settlement examples in this post do not mention the tax, title and license fees that your insurance company will add to the amount they pay you for your total loss settlement. This additional payment is intended to reimburse you for the fees you'll pay when you replace the vehicle.
Ken Cobb is owner of Pine Country Insurance and has been active in the insurance industry for over 15 years. Meet Ken.
Coverage descriptions found in this blog are summaries provided for general educational purposes and cannot fully detail the terms, conditions, limitations or exclusions of a specific insurance policy. Please read your policy carefully.