A sort of auto insurance called guaranteed asset protection insurance, sometimes referred to as “gap insurance,” safeguards you in the event that the value of your car is less than the remaining amount on your loan. You won’t be forced to pay back a car loan on a vehicle that is no longer in your possession if your automobile is totaled or stolen, thanks to this coverage. For most drivers, gap insurance is an optional extra, but you might have to get it if you’re renting a car.

You may need to have collision and comprehensive insurance, whether you lease a car or buy one with an auto loan. But the amount of protection provided by these coverages is limited to the car’s appraised worth as determined by the insurance provider. Your situation may dictate that you owe more on your automobile than its market value, in which case the insurance payout could not be sufficient to pay off the whole debt. After you pay the deductible, gap insurance takes over and pays the remaining amount.

example of gap insurance

$28,000 is the remaining debt on the car loan.

Cash value of the car: $23,000

$1,000 is the car insurance deductible.

$22,000 (car value deductible) is the insurance payment amount without gap coverage.

Payment for insurance with gap coverage: $27,000 (loan balance less deductible).

Only when you’re leasing or buying a car with a loan is gap insurance an option. It doesn’t matter if you’re paying cash for your car.

But having a car loan does not automatically entail that you will require gap insurance. Although you should constantly check the number for your own circumstances, gap insurance is more likely to be beneficial in the following cases:

• The main factor in determining whether you need gap insurance is whether the loan will be paid off quicker than the car’s value will decrease. Auto loans with high interest rates and longer repayment terms result in a slower main loan debt payback, which raises the possibility that the value of your car will decline below what you owe.

The main factor in determining whether you need gap insurance is whether the loan will be paid off quicker than the car’s value will decrease. Auto loans with high interest rates and longer repayment terms result in a slower main loan debt payback, which raises the possibility that the value of your car will decline below what you owe.

Getting a car loan with favorable conditions from the start is one way to help prevent going underwater on it. Because of PenFed’s reasonable rates and accommodating terms, CNBC Select named the credit union as the top overall provider of auto loans.Another good location to look for a loan is MyAutoloan. After completing a form, the marketplace will match you with four prequalified loans, so it’s a great option if you want to compare offers from several lenders quickly.