Function

• GAP insurance will pay any additional money you may still owe the finance company in the event that your vehicle is totaled or stolen. It guards against a situation in which you are "upside down" in your car loan, meaning you owe more than you vehicle is worth. GAP insurance is not a legal requirement, although a leasing company may require that you carry it in order to obtain a vehicle lease.
  
  

Example

• Here's an example of how GAP insurance works. Suppose you purchase a new vehicle and obtain financing in the amount of $20,000. Ten days later, you're involved in an accident where the vehicle is totaled. According to Edmunds.com, a vehicle depreciates by about 20 percent as soon as you drive it off the lot, so your insurance company may place the value of the vehicle at only $16,000. GAP insurance will pay the additional $4,000 that you still owe on the vehicle.
  
  

Significance

• GAP insurance can be a financial lifesaver in a situation where you trade in a car that is still financed for a vehicle that you are also financing. In these situations, the amount that you are financing is often increased because your old auto loan may be rolled into your new loan. If you don't take out GAP insurance with the new loan, you could be on the hook for several thousands of dollars if your vehicle is totaled or stolen.
  
  

Expert Insight

• According to Edmunds.com, there are a variety of other situations where GAP insurance is recommended. If you finance your vehicle for 72 months or longer or make a down payment of less than 20 percent, GAP insurance is a good idea because the total amount you are financing is likely to be high. It also makes sense when financing a vehicle that depreciates rapidly, such as a luxury vehicle.
  
  

Considerations

• If you're in the market for GAP insurance, start by contacting your own insurance carrier to see if it offers the coverage. If it doesn't, you may want to shop around with other carriers. You can also obtain it through the car dealer, although this is usually not the best option because this method often results in the highest premiums.