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How does car insurance work? The basics are explained.

Car Insurance

Having auto insurance is a requirement in nearly every state. But beyond state minimum requirements, car insurance is crucial to your financial protection when you get behind the wheel. Let’s take a closer look at how car insurance works, what it costs on average, and what types of coverage you may want to consider.

What is car insurance?

Car insurance is a type of insurance that helps protect vehicle owners from financial fallout in the event of a car accident, theft, vandalism, or other incident involving motor vehicles that results in property damage or bodily injury. Car insurance companies issue a legally binding contract called an insurance policy that outlines the coverage it will provide. Many policies cover:

  • property damage or theft of your car,
  • legal responsibility to cover injuries and property damage to others,
  • medical expenses related to injuries resulting from car accidents.
  • How does car insurance work?

You may wonder how your insurance coverage pays the huge amounts involved in car insurance claims, especially for at-fault accidents. After all, your auto insurance premiums are relatively affordable compared to what you’d pay out of pocket.

Car insurance is priced to spread the financial risk between you and your insurance company. Lower coverage limits or a higher deductible usually means you pay less in premiums in exchange for bearing more financial liability for out-of-pocket costs in the event of an accident.

When you purchase car insurance, you’ll typically pay a higher premium if you’re deemed to be at greater risk of causing an accident due to your driving record, age, and other criteria. You may also be offered less affordable car insurance if you’ve had a lapse in coverage due to failure to pay premiums or poor credit history.

Types of car insurance coverage

To better understand how car insurance works, it helps to know the types of coverage most insurance companies offer.

Liability coverage

Liability insurance is usually state-mandated and includes two different types: bodily injury liability and property damage liability.

Bodily injury liability coverage provides for expenses related to injuries or death to other drivers or passengers in an accident in which you were at fault. Property damage liability coverage fronts the cost of vehicle repairs, car replacement, or damage to property that occurs as a result of your actions behind the wheel.

Collision coverage

Instead of covering the costs of damage to someone else’s car or property in an accident, collision insurance protects the value of your vehicle by paying for car repairs or replacement.

Comprehensive coverage

Comprehensive insurance pays for all the other things that could do damage to your car that aren’t related to an auto accident such as natural disasters, theft, and vandalism.

Underinsured or uninsured motorist coverage

Many states require underinsured or uninsured motorist insurance in case you’re in a hit-and-run or any other accident with a driver who doesn’t have car insurance or enough insurance coverage to offset their liability.

Personal injury protection (PIP)

In no-fault states, personal injury protection insurance is often required to cover medical expenses, funeral costs, or lost wages for you or your passengers in the event of a car accident, regardless of fault.

Medical payments coverage (MedPay)

Although it’s usually optional, a handful of states require medical payments coverage (MedPay). This insurance covers medical bills in the event of an accident but doesn’t reimburse for lost wages or other expenses related to car accident injuries.

Other coverage options

Check online or talk to an insurance agent to find out if your insurance company offers any of the following optional coverage types.

Roadside assistance. Have a flat, locked out, or need a tow? Emergency roadside assistance insurance has you covered.

Mechanical breakdown insurance. If you need a little cushion for car repairs that extend beyond your car manufacturer’s warranty, mechanical breakdown insurance covers failures of major components like the engine and transmission.

Rental reimbursement. If your claim is covered, this add-on insurance covers the costs of a rental car while yours is being repaired or replaced.

New car replacement. When your car is totaled, new car replacement insurance kicks in to replace your vehicle with one of the same make and model.

Gap insurance. If your car is totaled, gap insurance bridges the financial gap between your car’s actual cash value and what you owe on your car loan.

Your insurance provider might offer even more options for specialty coverage, such as auto glass insurance to fix a broken windshield, classic car insurance if you drive an antique, and custom parts and equipment insurance for a car you have modified. Progressive, for instance, offers both rideshare insurance for professional drivers and pet injury protection to cover vet bills in case of an accident.

What isn’t covered by auto insurance?

Here are a few scenarios and types of damage that aren’t likely to be covered as part of a claim on a standard auto policy.

  • Personal property, including electronics, jewelry, or cash
  • Car maintenance and general wear and tear
  • Aftermarket modifications or car accessories
  • Damage or injuries caused by unlicensed drivers
  • Damage or injuries incurred during criminal use

It’s also worth mentioning that insurance companies won’t cover intentional damage inflicted in hopes of an insurance payout. That’s car insurance fraud, and it could result in the immediate cancellation of your insurance policy and potential criminal penalties.

How much car insurance do you need?

Any discussion of how much car insurance you need should start with the minimum amount state laws mandate. Most states require proof of auto insurance, specifically liability insurance, up to certain coverage limits.

Next consider how much insurance you need to cover your personal liability and protect your net worth. You may want to buy more than the minimum amount of coverage required in case you cause an accident and get sued.

Minimum car insurance requirements are commonly $25,000 per person and $50,000 per car accident for bodily injury liability, and $25,000 per car accident for property damage. Some states also require uninsured or underinsured motorist coverage and personal injury protection (PIP) or MedPay. Additionally, if you have a car loan or lease, the lender may require you to purchase full coverage or to have more robust coverage limits.

How much does car insurance cost?

How much you pay for an auto insurance policy depends on the insurer, the vehicle, the location, and the driver. Car insurance rates can vary significantly based on the following factors.

Driving history

On average, Progressive says liability-only car insurance averages $81 to $146 per month, while Liberty Mutual cites average costs falling somewhere between $80 and $211 per month. To secure lower auto insurance rates, maximize the auto discounts your insurance company offers or consider usage-based car insurance.

Read more: How to find cheap car insurance in 2024

How to file a car insurance claim

An essential piece of how car insurance works is the claims process. Follow these steps for a less stressful experience filing an auto insurance claim.

Step 1: Report the accident

Even if it’s a minor fender-bender, each state has its own rules about reporting accidents to the police. When in doubt, contact the police immediately after a car accident, especially when there are injuries or visible vehicle damage.

Step 2: Gather documentation

While at the scene and in the aftermath, gather documentation such as insurance information from other drivers involved or eyewitnesses, pictures of vehicle damage and the accident scene, and a copy of the police report.

Step 3: Contact your insurance agent

The next call should be to your insurance company to report the accident and start the claims process. In no-fault states, you’ll work with your own auto insurance company to process a claim. In at-fault states, you’ll work with the at-fault driver’s company throughout the claims process.

What happens if you don’t have a car insurance policy?

Driving without car insurance is illegal in almost every state and can carry hefty fines, license suspension, or even jail time. Additionally, if you’re in an at-fault car accident, you’ll be personally and financially liable for any vehicle damages or bodily injuries that occur as a result of your actions behind the wheel.

If you do get caught driving without car insurance coverage or your insurer reports a lapse in coverage to the state, you might be asked to obtain an SR-22 certificate. This certificate of financial responsibility will almost certainly result in increased car insurance rates as you’ll be classified as a high-risk driver for up to three years in some states.


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