Steer away from these car insurance policies
Car buyers who sign up to the dealer’s finance and insurance schemes risk a repayments ‘nuclear bomb’, says Christopher Walsh of MoneyHub.
Here’s something I know to be true. Many car yards make a lot of money from financing and insurances that are sold as an add-on when purchasing a car.
Some of these insurances are, in my opinion, upsold on commission more than merit.
In Australia, the situation got so out of control that their regulator, ASIC, launched a full investigation into the fleecing.
It’s a fact that thousands of New Zealanders use car finance every month to help them into a car.
It’s usually sold online via a specialist lender, through a bank or credit union, or offered directly by the car yard. A cursory look of the interest rates show they vary widely. We see anything from around 5 per cent per annum to as high as 29 per cent per annum, but believe the rates go higher.
If not correctly managed and repaid as per the schedule, car loans can be a financial nuclear bomb later on.
That’s why I’m having a big problem with the upselling of (some) already expensive car loans with addon insurance policies.
The two big ones are Guaranteed Asset Protection Insurance (known as GAP insurance) and Mechanical Breakdown Insurance (known as MBI). Like Australian regulators and Consumer NZ, we’re very cautious of them.
Mechanical Breakdown Insurance covers the costs of repairing your car that arise from a mechanical breakdown. The policy provides a guarantee for automotive machinery and electronic faults. As car insurance doesn’t cover such faults, MBI is designed to protect drivers from unpredictable (and often unaffordable) mechanical repair bills.
Our guide explains more, although, in a nutshell, there is a lot to be cautious of as they’re expensive and the benefits are arguably limited. We don’t think anyone buying a car should rush into either of these policies without proper consideration.
The policies are costly, and many times the cost is ‘‘added on’’ to the car loan, which means you’ll pay interest on the insurance. For example, a $900 policy is upsold on a car to cover it for three years.
Most people financing a car don’t have $900 for insurance, so they choose to have the amount added to the total of the car loan and at a 15 per cent per annum interest rate, they would pay another $385 in interest costs over three years. In Australia, ASIC reported that 9 cents in every $1 of policy charged was paid out in claims.
Here, the exclusions for MBI are lengthy. Your understanding of ‘‘breakdown’’ may not be the same as the insurer’s. That’s bad news.
GAP Insurance covers the ‘‘gap’’ between how much your insurer
You don’t need to agree to any loan or insurance offered to you.
pays you and how much is owed to pay off the loan. The best way to explain it is using an example: GAP insurance pays out when a car is written off, you get an insurance payout, and that amount is less than what you owe to the finance company.
For instance, if your Toyota is insured for $10,000, but you owe your car lender $12,000, the $2000 shortfall would be covered by GAP insurance.
Like MBI, the cost depends on the car yard or lender. The policy is usually sold upfront, for instance $500 for the life of the loan. Again, like MBI, this cost can be ‘‘rolled up’’ into the loan cost, meaning you’ll pay off the GAP insurance cost over three, four or five years (or however long your car loan is).
The more GAP insurance you agree to, the more expensive your car loan and the higher the repayments. Our guide outlines alternatives that avoid GAP insurance altogether without ratcheting up a car loan.
Remember, you don’t need to agree to any loan or insurance offered to you.
Car yards generally make the most money from you when your loan is bloated and add-on insurances are wrapped up in the financing.
I believe MBI and GAP insurances are lucrative for car yards, hence why so many people offer them (and why so many are sold).
Car yards earn a hefty upfront payment from arranging financing and, in some cases, a trail commission on top (meaning every time you make a repayment, they get a cut). Add-on insurances are, for the most part, to be navigated around like potholes.