A serious crash that wrecks your new car beyond repair could put a huge dent in your wallet, even if you have full-coverage car insurance.
Here’s why: The insurance payout will equal the car’s market value, minus your deductible. The market value will be less than what you paid for the car, even if you just drove it off the lot. As a result, you might have nothing left to buy another vehicle once you pay off your lender.
Imagine, though, getting reimbursed for the full cost of a brand-new model. That’s the idea behind new-car replacement coverage, a benefit offered by some auto insurance companies.
You’ll probably appreciate such a perk if your car is totaled, but in most cases the extra coverage comes at a price, and you’ll need to weigh the cost of car insurance against other options to decide whether it’s worth it. In addition, the coverage is geared to newer cars, so don’t expect a 15-year-old beater to qualify.
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When a car is totaled
A car is declared a total loss when the estimated costs to repair it exceed a large percentage of the vehicle’s value. The cutoff point varies by insurer and state, although a common level is 75%, meaning repair costs would exceed 75% of the car’s value. The bottom line is that the damage is so bad that the car isn’t worth fixing.
Consider this: The average cost of replacing a car bumper alone is $935 to $1,580, according to Western Auto Body, a collision-repair facility in California. Increase that bill if your car has other dents and scrapes, and suddenly it’s a “total loss.”
Assuming you have collision and comprehensive coverage, your car insurance company will pay out the market value of your car, minus the deductible amount.
Hedging against vehicle depreciation
New-car replacement coverage is available from insurance companies only if you buy collision and comprehensive insurance. Unlike liability insurance, which pays for injuries and damage you cause to others, collision and comprehensive insurance protects your vehicle. No states require you to buy collision or comprehensive coverage, but your lender or leasing company will require you to have the coverage if you financed or leased your car.
Collision insurance pays for repairs if your car is damaged from hitting an object or other vehicle or from rolling over, whereas comprehensive pays for damage from other causes, such as hitting an animal, vandalism or natural disasters, and covers the car if it’s stolen.
Your car starts losing value immediately after you buy it. The depreciation rate for used vehicles is currently about 14.5% a year, according to the Black Book & Fitch Ratings 2015 Vehicle Depreciation Report. That means if you buy a $30,000 new car, the market value will probably drop to $25,650 within one year. Within two years the car might be worth less than $22,000.
New-car replacement insurance eliminates worries about depreciation. If your car is totaled, the insurance company will cut you a check, minus the deductible, to buy a new vehicle of the same make and model.
Who offers new-car replacement insurance?
Coverage details vary by insurance company, but here are some examples:
- Liberty Mutual provides new-car replacement coverage on all auto policies with collision and comprehensive insurance. This feature applies only to vehicles that are less than a year old, weren’t owned by anyone else previously and have fewer than 15,000 miles on them. Leased cars are not eligible. If you pay extra, you can opt for “better car replacement coverage,” which is available for vehicles older than one year. With this perk the policy will pay for a car that is one model year newer with 15,000 fewer miles on it than your current car. The deductible still applies.
- Allstate’s new-car replacement coverage applies to new vehicles within their first three years. The benefit is available through Your Choice Auto insurance plans, which feature other extras such as accident forgiveness.
- Travelers’ “premier new-car replacement” insurance pays to replace your car with a new vehicle of the same make and model during the first five years.
New-car replacement vs. gap coverage
Gap insurance is another way to protect yourself from vehicle depreciation if your car is totaled, but it works a little differently. Rather than paying out to buy a new car, it pays the difference between the insurance claim check for the totaled car and the amount you owe on a lease or loan. This protects you financially in case you owe more than what the car is worth.
The car dealer usually provides gap coverage if you lease a car and includes the cost in the lease. If you take out a car loan to buy a vehicle, you can buy gap insurance from a car insurance company.
Gap coverage is a good idea if you make a small down payment toward a car and you’re likely to owe more than the vehicle is worth for the first few years of the loan.
To decide if this kind of coverage is right for you, calculate the shortfall you’d face if your new car were totaled. Say your car is worth $17,000, you owe $20,000 on the car loan and you have a deductible of $500 for collision and comprehensive. If the car is declared a total loss, the insurance company will pay out $16,500 — $17,000 minus the $500 deductible. You’d still owe the lender $3,500.
Is that an expense you could afford to pay out of pocket? If not, then new-car replacement coverage or gap coverage is worth considering.
Read the terms and conditions for both types of coverage to make sure your vehicle qualifies. Depending on the insurer, gap coverage might be available for more years than new-car replacement coverage.