When I bought a new car, the finance manager tried to push me to buy gap insurance. He said it would give me back what I paid for the car if it’s stolen or totalled in a crash. I think my insurance will do this – so why would I also need it from the dealer? He said it was an extra layer of protection. It was quite expensive. Is this just a cash grab or should I have considered it? – Leah, Ottawa
If you’re thinking about buying gap insurance from your dealer, mind the gap.
While it could keep you from owing money on a car that’s been stolen or written off – it won’t give you back what you paid for it, experts say.
“Generally, it’s tied to what you owe on the loan,” said Shari Prymak, a senior consultant with Car Help Canada, a Toronto-based not-for-profit that helps drivers find cars and negotiate purchase and lease agreements. “So that way, you can walk away from your loan free and clear.”
Gap insurance, which is typically sold by dealerships and finance companies, covers the difference between what you have left owing on your loan and what your insurance company pays out if your car is stolen or written off.
“It’s really designed to eat up negative equity on a financing loan,” Prymak said.
For example, let’s say you paid $50,000 for your car two years ago, still owe $40,000 on the loan, but the car is only worth $35,000 now. If it gets written off, the insurance company would cover $35,000 – but then you would still owe $5,000 on the loan.
“That [$5,000 difference] is what gap insurance is supposed to cover,” Debbie Arnold, a Toronto-based insurance broker, said in an email.
Most lease agreements automatically include gap insurance – but it’s optional if you’re financing the car, Prymak said. Or at least it’s supposed to be optional.
“Dealers do play games with it,” he said. “They sometimes automatically put it on contracts.”
Prymak has seen dealers charge anywhere from $1,000 to $3,000 for gap insurance.
“They sell it as an add-on with very high profit margins,” he said. “And sometimes the product you’re getting is not very good or not worth the money.”
Get what you paid for?
Gap insurance is different from depreciation insurance, which, generally, gives you back the amount on the original bill of sale if your car is stolen or written off.
Also called a limited waiver of depreciation, you can buy it from your insurance company. The exact name varies by province. In Ontario, it’s called OPCF 43.
So, for that $50,000 car that you bought new two years ago and is now worth $35,000, you would get $50,000 if it’s stolen or written off, Arnold said.
The cost varies depending on your vehicle – it’s typically anywhere from $50 to $150 a year for the first year, she said – and it usually goes up every year as your car loses value.
It also has a time limit – typically anywhere from two to five years, depending on the company. Typically, it will only cover brand new cars, although some companies will let you add it to demos – but there are usually limits on how much mileage cars can have, Arnold said.
Usually, you have to buy it at the time you buy the car – for instance, between the time you sign the contract and when you pick up the car.
So is it a good idea to get depreciation insurance?
“OPCF 43 is always a good idea,” she said.
But it’s not available for every car. For example, some companies won’t sell it for high-value cars or for models that are riskier for companies to insure – for example, because they tend to see a lot of damage claims or frequently get stolen, Arnold said.
Depreciation insurance gives you what you paid – but not what a new one costs today. If that $50,000 car now costs $53,000 two years later, you would be $3,000 short if you wanted the same car new.
Also, it won’t cover diminished value – that’s any loss in your car’s resale or trade-in value because it was damaged in a crash and repaired.
Gaps in gap?
So, if you’re getting depreciation insurance on your new car, do you also need gap?
“If you’re financing or leasing, gap insurance is generally a good idea,” Arnold said. “It depends on the finance deal, how long they plan to keep the car and [whether] the gap insurance is legitimate.”
In July, the Financial Services Regulatory Authority of Ontario (FSRA), the province’s insurance regulator, warned that some gap insurance sold by dealers might not be valid.
That warning followed complaints from buyers, but FSRA would not say how many.
If you’re buying gap insurance, check the contract carefully to see exactly what it covers, make sure it’s backed by a licensed insurance company and make sure a licensed agent or broker is part of the sale, Russ Courtney, a FSRA spokesman, said in an email.
Even if the dealer’s gap insurance is legitimate, make sure you need the extra coverage. For example, if your depreciation coverage lasts only five years but you have a seven-year loan, gap insurance might make sense if it continues to cover you for negative equity after the depreciation coverage expires.
But gap insurance might not be necessary if you can avoid having huge amounts of negative equity in the first place.
“When people finance cars for 84 months (7 years) or longer, they’re paying off the car so slowly that the depreciation is much faster than the rate they’re paying it off,” Car Help Canada’s Prymak said. “Gap insurance is really nothing but a Band-Aid for those long-term loans. Yes, it protects you from negative equity [if your car is stolen or totalled], but you wouldn’t have that problem to begin with if you just financed a car for a reasonable [length of time].”
Generally, you shouldn’t be financing a car for longer than five years – or leasing a car for longer than three or four years, he said.
“If the payments are too high, then find a cheaper car,” Prymak said.
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