Is it Mandatory to Have Auto Insurance When Financed?

If you’re planning to buy a car on credit or loan, you might be wondering whether it is mandatory to have auto insurance. Most dealerships require you to show proof of insurance for purchasing a car on credit. There is always a substantial risk of accidental damage to the vehicle.

When you finance a vehicle, the lender typically holds a lien on the car until the loan is repaid. Because the vehicle serves as collateral for the loan, the lender has a financial interest in protecting it from damage or loss. This is why lenders generally require borrowers to maintain certain auto insurance coverage while the vehicle is financed.

Why is It Necessary to Have Auto Insurance When Financed?

Most dealerships or financial institutions won’t approve your credit loan unless you show proof of auto insurance. Apparently, there are multiple reasons why you need to have auto insurance when financed. Here are the 3 main reasons as follows.

To Protect the Lender’s Investment

When you finance a vehicle, the lender generally holds a lien on the car until you repay the loan. This gives the lender a financial interest in the vehicle because it serves as collateral for the money you borrowed. 

If the vehicle is damaged, totaled, or stolen, applicable auto insurance coverage can help pay for a covered loss according to the policy's terms, limits, deductibles, and exclusions. Requiring physical damage coverage helps protect the lender's financial interest in the financed vehicle.

Avoiding Hefty Out of Pocket Expenses to Repay Due

Suppose you purchase a car without auto insurance, and then you run into an accident, and it gets damaged, or wrecked. Or, what if it’s stolen? In this case, technically you’d be held financially liable to the dealership or financial lender.

When you’re financing a car on credit, you basically agree to repay them in due time. Now if the car needs repairing, or if it’s damaged to the point where it’s beyond repair, you would still have to pay the outstanding amount for the car.

If you’re uninsured, you would have to pay out of pocket, but if you’re unable to afford that then it can lead to a huge financial burden. So, that’s why it’s crucial to stay insured while purchasing a car on credit or loan.

Legal Consequence

There are serious legal consequences especially when you’re dealing with loan purchases. Let’s say you have acquired the car on credit, and somehow it gets damaged, totaled, or stolen.

You would still have to repay the outstanding amount that you owe to the dealership or your financial lender. However, as you don’t have auto insurance, and you don’t have the financial capability to compensate the damage.

So, in this case if you’re unable to pay in due time, then there’s a high chance that you may get sued, and that will add a much higher financial burden with numerous legal complexities.

Financial Assurance

When it comes to financing a car on loan, the most crucial aspect is financial assurance. By having an active auto insurance, your lender would know that you can pay for the car’s repair and replacement cost. Similarly, you would also be assured that if something happens to the car, you can financially compensate for the damage without any hassle.

As there’s always a high financial risk for purchasing a car on loan, auto insurance is crucial to ensure financial assurance. Plus, it is a substantial requirement to protect yourself financially, and to stay legally compliant.

Types of Auto Insurance Coverages Required for Financing a Car on Credit

When it comes to purchasing insurance, there are several types of auto insurance coverages. The coverage required for a financed vehicle comes from both state insurance requirements and the terms of your financing agreement. In Michigan, drivers must maintain the required Michigan No-Fault auto insurance to legally register and operate a vehicle. 

Your lender may also require physical damage coverage, particularly collision and comprehensive insurance, to protect the vehicle that serves as collateral for the loan. These lender requirements are separate from the auto insurance coverage required by state law.

If you’re looking for reliable and affordable auto insurance at a reasonable rate in Michigan, consider checking our auto insurance solutions. We have auto insurance coverage options that may help meet both Michigan requirements and your lender's insurance requirements. For a more detailed understanding, you can visit our regional offices in Flint MI, Saginaw MI, and Mt Pleasant MI.

Collision Auto Insurance

Collision auto insurance is designed to financially protect your car when you accidentally collide or crash with another vehicle, object or tree, regardless of whoever is at-fault for the accident.

If your car gets damaged by accidentally colliding with another vehicle or object, your insurer will cover your car’s repair and replacement cost up to your coverage limit. Car accidents are very common in the US with over 6 million car crashes occurring every year on average.

So, that’s why having collision auto insurance is required by most auto dealers or financial lenders in the US.

Comprehensive Auto Insurance

You also need to have comprehensive auto insurance to finance a car on credit, this is essentially because comprehensive auto insurance financially protects your car from unprecedented incidents that are beyond your control.

These unprecedented incidents include theft, along with damage due to vandalism and severe weather conditions. Similarly, like collision auto insurance, comprehensive auto insurance also covers your car’s repair, and replacement costs up to your coverage limit.

Gap Insurance

Auto dealers wouldn’t ask you to acquire gap insurance unlike collision, and comprehensive insurance. But it’s highly recommended to have gap insurance when you’re financing a car on loan.

Gap insurance is designed to help when the amount you still owe on a financed vehicle is greater than the vehicle's actual cash value after a covered total loss or theft. Your primary auto insurance generally pays for the covered loss according to the vehicle's value and policy terms, while gap insurance may cover some or all of the remaining difference between that payment and your outstanding loan balance. 

For example, if your vehicle is valued at $25,000 after a covered total loss but you still owe $30,000 on the loan, there is a $5,000 difference. Depending on the terms of your gap coverage, it may help cover that remaining balance. 

Gap insurance is generally optional rather than a standard legal requirement for financing a vehicle. However, it can provide additional financial protection when you owe more on the vehicle than it is currently worth..

What is the Average Cost of Auto Insurance When Financed?

Typically, you will have to get full coverage auto insurance when you’re financing the car on loan. Full coverage insurance mainly includes a combination of mandatory auto insurance coverage with multiple optional auto insurance coverages such as liability auto insurance, collision auto insurance, and comprehensive auto insurance.

You can add more optional auto insurance coverages with your full coverage auto insurance policy. In the US, the annual cost of full coverage auto insurance is $2,670 per year.

For a broader look at pricing and the factors that affect premiums, read our guide on how much auto insurance costs.

How to Reduce the Cost of Insurance for Financed Vehicle?

Even though you’re financing a car on loan, you would still need to spend around $25,000 and above. Paying the car’s price in installment can itself be financially straining, so that’s why it would be easier and more convenient if you could save on the auto insurance rate. Here are some effective tips to reduce the cost of insurance for a financed car.

• Search, and compare multiple insurance companies 
• Contact at least 5 insurance companies and get a quote from each 
• Negotiate the auto insurance premium, and bid the lowest rate 
• Maintain a clean driving record 
• Sign up, and complete a safe driving course 
• Take advantage of low-mileage discounts (telematics insurance) 
• Seek discounts and other bundle offers 
• Opt for supplemental spouse auto insurance (if applicable) 
• Go for higher deductibles (up to the amount that you can afford)

For more ways to lower your premium, read our guide on how to save money on auto insurance while maintaining the coverage you need.

The Bottom Line

You will mainly need collision auto insurance, and comprehensive auto insurance to purchase a car that’s financed on loan. Apart from these two types of auto insurance coverage, you can add gap insurance for better financial protection.

Typically, these three optional auto insurance coverages are legally optional throughout the US. But most car dealerships and financial lenders insist on showing that you have collision auto insurance, and comprehensive auto insurance. If lender-required coverage lapses, the lender may purchase force-placed insurance and charge the cost to you.

If you’re purchasing a car on credit or loan, it’s recommended that you get these three types of auto insurance before buying the car. In this way, you can instantly purchase the car of your choice without any hassle or having to wait.

The best part about purchasing car insurance is, it takes about 30 minutes to a few hours to get a car insurance policy and have it activated. So, it doesn’t take too long to get auto insurance unless there’s an issue with your driving record, vehicle, or any information that you have provided.

If you’re financing a car on loan, and if you’re searching for the best auto insurance coverage at the most reasonable rate, contact us to get a free quote and consultation today!

Frequently Asked Questions (FAQs)

Do you need insurance when financing a car?

Yes. Most lenders require auto insurance, including collision and comprehensive coverage, while the vehicle is financed.

What happens if you don't have car insurance when buying a car?

You may be unable to register or legally drive the vehicle, and a lender may not approve financing without the required insurance.

What happens if you total a financed car with no insurance?

You may still be responsible for paying the remaining loan balance even if the financed vehicle is totaled.

Can you remove insurance on a financed car?

You generally need to maintain lender-required insurance until the loan is paid off. Allowing it to lapse may violate your financing agreement.