Insurance for Car Loans - The Definitive New Zealand Guide

Explore our guide on insurance for car loans, covering terms, add-on insurance, choosing the right coverage and tips for cost-effective policies.

Updated 19 February 2024

Summary:

Car loan contracts require you to have a comprehensive insurance policy that is always valid.
This means you need to keep paying the renewal costs and ensure you don't breach the terms of the policy (such as letting an unlicenced driver take control or drive under the influence).
We know that financed cars have a disproportionate spend on car insurance, suggesting drivers are paying too much and may have insurance cover they don't need.
You're not obligated to buy the lender's or dealer's preferred insurance policy. It's often sold with heavy commission.
Instead, you're free to compare policies and find the best deal that works for you.
We have published this guide to clarify what insurance you need, what insurance is optional, and must-know tips and considerations to get the right policy at the best price when you're getting a car loan.

Warning: Too often, New Zealanders get sucked into buying add-on insurance policies out of fear or pressure (or both).

These include payment protection (PPI), mechanical breakdown (MBI) and guaranteed asset protection (GAP) policies. The costs can be significant; we discuss their relevance, benefits and costs below.

Understanding the Standard Insurance Terms in a Car Loan Contract

The following terms are standard and taken from a Toyota car finance contract. We explain what the terms mean below in plain English, why the terms matter, and what you need to understand about them.

1. Full Replacement Value Coverage:

Contract Terms and Wording: "You must insure and keep your vehicle insured for its full replacement value with a reputable insurance company against all loss, damage and other usual vehicle risks".
Plain English Explanation: Your car loan contract requires you to insure the vehicle for its total replacement cost. This means the insurance should cover the entire cost of replacing your vehicle in case of total loss or significant damage.
Why It Matters: This protects both your investment and the lender's interest in the car.

2. Noting the Lender's Interest and Naming as Loss Payee:

Contract Terms and Wording: "You must make sure the insurance policy notes our interest in the vehicle and names us as loss payee".
Plain English Explanation: Your insurance policy must acknowledge the lender's interest in your vehicle. This means the lender will be compensated first from any insurance payout.
Why It Matters: It ensures the lender can recover the loan amount owed if something happens to the vehicle.

3. Providing Insurance Details and Ensuring Compliance

Contract Terms and Wording: "You will supply us with full details of the insurance when asked to. You must make sure the insurance is not affected in any way; for example, you must not let a person who does not hold a full license drive the vehicle otherwise than in accordance with the law".
Plain English Explanation: You're required to provide details of your insurance policy to the lender and ensure that the policy is not compromised. For example, letting an unlicensed person drive the car can violate the policy.
Why It Matters: This ensures continuous protection under the insurance policy, preventing situations that could lead to the policy being voided or claims being denied.

4. Loss or Damage to the Vehicle:

Contract Terms and Wording: "If the insurer doesn't cover loss/damage or if the vehicle is stolen, we receive any insurance or other payments. We may use these to repair the vehicle or pay off your loan balance. Any shortfall is your responsibility."
Plain English Explanation: If your car is damaged, stolen, or not fully covered by insurance, the lender will use any insurance payouts first for repairs or to reduce your loan. You need to pay the difference if the payout doesn't cover all costs.
Why It Matters: This clause ensures the lender can recover their investment. It's important for you as it highlights your financial responsibilities in case of inadequate insurance coverage.

5. Protecting the Lender's Interests:

Contract Terms and Wording: "If you don't meet the agreement's terms or we need to safeguard our interest in the vehicle, we may act on your behalf and charge you. For instance, if you don't insure the vehicle, we might arrange insurance and charge you for it."
Plain English Explanation: If you don't follow the terms of your loan agreement, especially regarding insurance, the lender can step in, take necessary actions like insuring the vehicle themselves, and charge you for these expenses.
Why It Matters: This part is crucial as it shows the lender can make decisions affecting your finances if you don't comply with the contract. It emphasises the importance of maintaining your insurance and adhering to the agreement's terms to avoid additional charges.

Car Loan Expert Founder Christopher Walsh shares his insights on car loans and insurance:

"Think of insurance not just as a bill to pay but as a vital component of owning a car. When a car has debt owing on it, insurance is more important than filling up or getting a service, and it's essential for keeping everything running smoothly. When working out your monthly car expenses, always factor in insurance. It's about preparing for those 'just in case' moments, ensuring that a small mishap doesn't become a financial setback.

Keeping your insurance policy valid is fundamental to your car loan agreement. Your insurance is a promise you make to the lender – to take care of your car and to protect yourself financially. Missing an insurance payment will risk breaching your car loan contract - the lender can then repossess your car, which is a huge hassle.

"I often hear people refer to insurance as their safety net for the unknown and unpredictable, and they're right. But it's more than that – it also protects your investment – your car. It's about peace of mind, knowing you're covered and upholding your end of the deal with your lender. An affordable insurance policy with a trusted lender keeps you on the road and moving forward.

Finally, our glossary below helps explain important car loan insurance contract terms":

Comprehensive Coverage: This covers damages to your vehicle from non-collision incidents, like theft or vandalism. For example, if a tree falls on your car during a storm or someone backs into you, comprehensive coverage helps pay for repairs.
Liability Insurance: This covers damages you cause to others' property or their injuries in an accident. For example, if you're at fault in a crash that damages another car, liability insurance would cover the repair costs for the other vehicle.
Excess: The amount you pay out of pocket before insurance kicks in. For example, with a $500 excess, you pay the first $500 of a covered claim, and the insurance covers the rest.
Premium: The amount you pay for your insurance policy. For example, if your premium is $100 per month, you pay this amount to keep your insurance active.

Reasonable vs Excessive Insurance Requirements in Car Loan Contracts

Comprehensive insurance is a standard requirement in every car loan contract, given it protects your vehicle against various risks, including theft, damage from accidents, and third-party liability.

However, some lenders, car dealers and other players take advantage and suggest getting essential and add-on policies that are either:

Overpriced (compared to what's available from other insurers for the same car and risks) or
Stuffed with clauses not in your favour (such as low excesses) or
Not required by the loan contract but pushed by the lender or dealer (such as MBI, PPI and GAP policies).

Excess Limits and Reasonable vs Excessive Contract Terms

Throughout New Zealand, a 'reasonable' excess is often around $500 per research from MoneyHub. If you make a claim, you'll pay the first $500; the insurance covers the rest.

Some car loan contracts may demand more than just comprehensive coverage. This can include requiring full-coverage policies with very low excesses (for example, $100 or $200), or additional insurance like GAP (Guaranteed Asset Protection), PPI (Payment Protection) and/or MBI (Mechanical Breakdown) insurance, which add on significant upfront costs to any loan.

A policy with a low excess, such as $100, sounds like a good deal and means less out-of-pocket expense for you in the event of a claim. However, low excess generally means higher monthly or annual premium costs.

GAP insurance, for example, covers the difference between what your car is worth and what you owe on your loan if the car is written off or stolen. While this can be beneficial in certain situations, it may not be necessary for everyone and also comes with higher costs. We discuss GAP in detail below.

Our view is simple - you should be able to choose an insurance policy independently of what the lender recommends, and choose the excess level that suits you.

This allows you to compare insurers and get the best price. Lenders and their salespeople may push their preferred comprehensive policy, MBI, GAP and PPI policies given the commission they earn.

However, a trustworthy car loan contract won't require add-on insurance to be purchased. This is because MBI, PPI and GAP policies, in most cases, significantly increase your overall loan cost without providing proportional benefits.

Understanding the Value of Your Vehicle and Its Impact on Insurance Choices

Knowing the current market value of your vehicle plays a crucial role in making informed insurance decisions. This value is not static; it changes over time due to factors like depreciation, wear and tear, and market trends.

Why does the value of your car matter?

When you choose an agreed value for your car insurance, this is the set amount your insurer agrees to pay if your car is written off. It's important to align this value closely with your car's current market value, but also consider your financial situation and the amount you owe on your car loan.

Our example explains what you need to know:

Suppose you have an agreed insurance value of $15,000 on your car. You still owe $10,000 on your car loan, but the car's current market value is $12,000.
If your car is written off, the insurer will pay out the agreed value of $15,000. From this, you can pay off the $10,000 loan balance, and the remaining $5,000 could be used towards a replacement vehicle or other expenses.
The key consideration here is the cost of the premium for this agreed value. If it is significantly higher than what you would pay for insuring the car at its market value, you must assess whether the extra expense is worth the potential payout.

Balancing Cost and Coverage:

While having a higher agreed value can provide an extra financial cushion in case of a total loss, it also comes with higher premiums.
It's crucial to weigh the potential benefits against the increase in premiums. In the example above, you're paying for an extra $3,000 of insurance cover than what is arguably needed ($15,000 cover less the $12,000 debt), and this comes on ongoing costs.
We suggest regularly reviewing your car's value and adjusting your insurance coverage to reflect changes in market value, ensuring your insurance decisions are both financially sound and practical.

Understanding GAP Insurance and Its Role in Car Financing

What is GAP Insurance? How does it work?

GAP insurance is a specific type of car insurance designed to cover the 'gap' between the amount you owe on your car loan and the car's current market value if it's written off. This insurance becomes particularly important when your vehicle depreciates faster than you're paying off the loan.

This is best explained with an example:

Imagine you have a car loan balance of $13,000, but due to depreciation, the market value of your car has dropped to $11,000.
If your car is written off in an accident, and your standard comprehensive insurance pays out on a 'market value' basis, it will only cover the market value of $10,000, leaving a $2,000 shortfall you still owe to the lender.
GAP insurance would cover this $2,000 difference, ensuring you're not left paying out of pocket for a car you no longer have.

When is GAP Insurance Beneficial? Does it Offer Value for Money?

New Cars: New vehicles typically depreciate rapidly in the first few years. GAP insurance can be a wise investment if you've taken out a loan to purchase a new car.
High Loan Amounts: If you have a long-term loan or a small down payment, the loan balance can be higher than the car's value for a significant period. GAP insurance provides financial protection during this time.

Warning: Be aware of the high costs of the policy, and don't rush in. Here's what you need to know and do:

Understand the Premiums: GAP insurance is often perceived as pricey, and MoneyHub's GAP insurance guidance warns potential borrowers to be careful. It's crucial to understand the cost, which is usually a premium paid upfront for the life of the loan, and compare them with the potential benefits.
Evaluate Your Situation: Assess your car's depreciation rate and loan terms before opting for GAP insurance. Not every car owner needs this type of insurance. For older cars that have already depreciated, the cost of GAP insurance might not be justified by the potential benefit.
Small Loan Balances Rarely Need GAP Insurance: If you owe very little on your car loan, the cost of GAP insurance may outweigh the risk of facing a shortfall between the insurance payout and your loan balance.
Shop Around: Don't feel pressured to purchase GAP insurance from the dealership or lender without comparing options. Often, third-party insurers offer competitive rates.
Read the Fine Print: Be vigilant about the terms and conditions. Some GAP policies have specific requirements or exclusions that could affect your coverage.
Consider Alternatives: Sometimes, setting aside an emergency fund or choosing a car loan with a shorter term or larger down payment can be more cost-effective than paying for GAP insurance.

How to Buy the Best Car Insurance for Your Financed Vehicle

Navigating car insurance for a financed car can be complex. Our step-by-step process is a proven way to secure a policy that offers value and peace of mind.

Step 1: Understand Insurance Coverage in Detail

Research and Compare: Start by thoroughly understanding what each insurance policy offers. Look at the benefits, limits, and exclusions. A great resource is the MoneyHub car insurance comparison, where you can find up-to-date information on various policies, their benefits, and example costs.
Key Factors to Consider: Pay special attention to coverage limits and what is not covered under each policy (exclusions). This will help you understand the extent of protection each policy offers.

Step 2: Shop Around for Quotes

Gather Multiple Quotes: Approach several insurance companies to get quotes. This allows you to compare different policies side by side. Make sure you choose the same excess amount to make the quotes comparable.
Look Beyond Premiums: While premiums are important, they shouldn't be your only consideration. Assess each policy's coverage limits, the excess amount (the part of a claim you must pay out of pocket), and any exclusions. This comprehensive evaluation ensures you get the most value for your money.
Consider Roadside Assistance: Adding roadside assistance to your policy can be a lifesaver in emergencies, especially for new drivers or those with longer commutes.
Look for Loyalty Discounts: If you have other policies with an insurer (like home and/or contents insurance), ask if they offer discounts for multiple policies.
Be Aware of Payment Options: Some insurers offer flexible payment options (monthly, quarterly, annually) that can align better with your budgeting.

Step 3: Regularly Reassess Your Vehicle's Value

Do an Annual Review: To avoid over-insuring your car, reassess its value every year or after significant events like accidents. Depreciation or changes in market conditions can affect your car's value.
Use Valuation Tools: Use resources like MoneyHub's car valuations guide to estimate your vehicle's market value accurately.
Adjust Your Coverage Accordingly: Based on this reassessment, you may want to adjust your agreed value in the insurance policy. If your car is over-insured (insured for more than its current value), you might consider lowering the agreed value to reflect its true worth. Conversely, if your car is underinsured (insured for less than its value), you may want to consider increasing the coverage to ensure adequate protection.

Step 4: Consider Switching Insurers at Renewal Time

Be Proactive with Renewal Quotes: When you receive a renewal quote, it's the perfect opportunity to reassess your insurance needs. Don't automatically renew without first considering your options.
Market Review: Use the renewal period as a prompt to review the current insurance market. Check for new deals - insurers often discount their policies to get a new customer.
Negotiate or Switch: If you find more competitive offerings, don't hesitate to negotiate with your current insurer using these quotes as leverage. If they can't match or beat the deal, consider switching insurers. Many New Zealanders find that shopping around at renewal time can lead to significant savings or better-suited coverage, with Reddit posts constantly appearing on PersonalFinanceNZ discussing the issue.
Seamless Transitions: Switching insurers can often be a seamless process, especially if done at the time of renewal. Ensure there are no gaps in your coverage during the transition.

Our View: Your primary goal is to maintain continuous, adequate coverage that aligns with your car's value and personal needs. Regular market reviews and being open to switching insurers are smart strategies to achieve this.

The right insurance policy for your financed car balances affordability with comprehensive coverage. It should protect you against major financial liabilities while fitting comfortably within your budget.

Frequently Asked Questions

Why is it important to note the lender as a loss payee in my insurance policy?

Noting the lender as a loss payee ensures that any insurance payout goes first to the lender in case of damage or loss of the vehicle. This arrangement is crucial to protect the lender's investment in your car. The lender does not want you receiving insurance money given the security (car) no longer exists, and that's why they need to be the payee to protect their interests and offset the funds against your loan balance.

How often should I reassess my vehicle's value for insurance purposes?

It's wise to reassess your vehicle's value annually or after significant events like accidents. This reassessment helps ensure your insurance coverage aligns with your car’s current market value, avoiding over or under-insurance.

Is GAP insurance always necessary, and how do I decide if I need it?

GAP insurance is not always necessary. It's most beneficial if you have a new car that's rapidly depreciating or if there's a significant gap between your loan amount and the car’s value. However, it has a high upfront cost - more details can be found in the MoneyHub GAP Insurance guide.

Do I have to get my car insurance policy through my lender?

No - you can select your own policy, and often this will be cheaper too. Gather multiple quotes and compare in detail, and be wary of a lender who insists of insuring with them as part of the car loan offer.

What are the risks of not having proper insurance for my financed car?

Not having proper insurance can lead to significant financial risks, including being unable to cover repair costs, remaining liable for the loan amount in case of total loss, and potential legal consequences for violating loan terms.

What are some red flags to watch out for in car insurance policies?

Be wary of policies with extremely low premiums but high excesses, limited coverage, or numerous exclusions. Also, watch out for policies sold with high-pressure tactics or without clear explanations.

What should I do if I struggle to afford my insurance premiums?

If you're finding it challenging to afford your car insurance premiums while financing a car, consider the following steps:

Review Your Current Policy: Examine your policy to see if there are areas where you could reduce coverage without significantly increasing your risk.
Increase Your Excess: A higher excess usually results in a lower premium. However, ensure that you can afford to pay the higher excess in case of a claim.
Contact Your Insurer: Contact your insurance provider and explain your financial situation. Many insurers are willing to work with customers to adjust payment plans, temporarily reduce coverage, or find other ways to make premiums more affordable.
Shop Around: Get quotes from other insurance companies to find more competitive rates. Sometimes, switching providers can lead to significant savings.
Check for Discounts and Bundling: Ask your current insurer about discounts, such as those for safe driving, no-claim bonuses, low annual mileage, or multi-policy offers.

What happens if my financed car is written off, but I'm underinsured?

If your financed car is written off and your insurance coverage is insufficient to cover the outstanding loan amount, you may face the following consequences:

Remaining Loan Balance: If the insurance payout is less than the amount you owe on your car loan, you will still be responsible for paying off the remaining balance. This situation is known as being 'upside down' on your loan.
GAP Insurance: If you have GAP insurance, it can cover the difference between the insurance payout and the remaining loan amount. Without GAP insurance, you must cover this gap out of pocket.
Financial Strain: You may find yourself in a financially challenging position, having to continue making loan payments on a car you no longer have, while potentially needing to finance another vehicle.
Negotiating with Lender: Contact your lender as soon as possible to discuss your situation. They might offer options like restructuring your loan.
Legal Implications: Failing to pay off the remaining loan balance could lead to legal action from the lender, negatively impacting your credit profile and future borrowing capacity.
Insurance Claim Review: Ensure that the claim payout is accurate. Review the insurance company's valuation of your car to confirm it matches the market value.

Our view: Being underinsured on a financed vehicle can lead to significant financial challenges. To avoid such situations, it's crucial to ensure your insurance coverage adequately matches the value of your car and the outstanding loan balance.