In the event of a severe car accident, a vehicle may be damaged past the point of repair. This is often referred to as being a total loss vehicle. Your insurance company may determine your vehicle to be a total loss if the cost of repairs exceeds the estimated value of the vehicle.
If your vehicle is deemed to be a total loss vehicle, your insurance company may pay you the actual cash value (ACV) of your vehicle. The ACV of your vehicle is the value that your insurance company projects your vehicle to be worth in today’s market which includes depreciation.
It is often the case that a driver with a loan on their vehicle will owe more on the vehicle than the vehicle’s actual cash value. In this case, the car insurance company would pay the lender the ACV and the difference would be vehicle owner’s responsibility. For example, imagine you owed your auto lender $10,000 on your loan but your car is now only worth $7500. If you were unfortunate enough to total that vehicle in a covered accident, your insurance company would pay your lender the actual cash value of your vehicle ($7500 in this example). You as the borrower, therefore, would still owe your lender the $2500 balance. This is where GAP insurance comes in.
GAP insurance is additional auto insurance coverage that is available to protect drivers in the situation outlined above (GAP stands for Guaranteed Auto Protection). GAP insurance will typically cover the difference between the actual cash value of your vehicle and the amount you owe on your loan.
In most states, GAP insurance is included in a lease. The leasee will typically include GAP insurance in your lease. In this case, if you were in an accident and your ACV was less than what you owe on your lease- your car insurance company would pay your ACV and your GAP insurer would cover the difference.
For a standard auto loan GAP insurance is purchased a little differently. In some states, drivers can purchase GAP insurance as an additional coverage on their standard auto insurance policy. In other circumstances the driver may be able to purchase GAP insurance directly from their lender when they purchase their vehicle.