Can You Have Only Liability Insurance on a Financed Car?
Learn why minimum liability insurance won't suffice for a financed car. Understand lender mandates and avoid costly penalties.
When a vehicle is financed, the necessary insurance coverage is a common question. While state laws mandate a minimum amount of liability insurance for all drivers, this basic coverage is insufficient for a car with an outstanding loan. For financed vehicles, lenders require more extensive insurance policies to protect their financial interest in the asset.
Lender Requirements for Financed Vehicles
When a vehicle is financed, the lender holds a lien on it until the loan is repaid. The lender has a financial stake in the car, viewing it as collateral. To safeguard this asset, loan agreements stipulate specific insurance requirements beyond state minimums. These are legally binding clauses designed to mitigate the lender’s risk.
These requirements ensure funds cover the outstanding loan balance if the vehicle is damaged, stolen, or destroyed. Borrowers must provide proof of this required insurance at loan origination and maintain it throughout the loan term. Failure to adhere to these insurance stipulations can lead to serious consequences.
Key Coverages Beyond Liability
Liability insurance, while mandatory in most states, primarily covers damages and injuries the policyholder causes to others or their property in an accident. For financed vehicles, lenders require additional coverage to protect the vehicle itself. These include collision and comprehensive insurance, often referred to as “full coverage” by lenders.
Collision coverage pays for damages to the insured vehicle resulting from a collision with another car or object, regardless of who is at fault. This ensures the vehicle can be repaired or replaced if it sustains accident-related damage. Comprehensive coverage protects against non-collision incidents such as theft, vandalism, fire, natural disasters, or hitting an animal. Both collision and comprehensive policies include a deductible, the amount the policyholder must pay out-of-pocket before coverage begins.
Implications of Non-Compliance
Failing to maintain the insurance coverage specified in a vehicle financing agreement can trigger severe repercussions. Lenders may “force-place” insurance on the vehicle. The lender purchases a policy on the borrower’s behalf and adds the cost to the outstanding loan balance.
Force-placed insurance is more expensive than a policy a borrower could obtain independently, often costing four to ten times as much. These policies offer limited coverage, primarily protecting only the lender’s financial interest and providing no liability coverage or protection for the borrower’s property. Continued non-compliance can lead to loan default, resulting in vehicle repossession. Such actions can inflict financial burdens and damage the borrower’s credit score, impacting future borrowing opportunities.