Does car insurance go down when you pay off your car?

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Your car insurance premiums keep your coverage active. Premiums are based on factors like your driving history, how often you drive your car, where you live, and personal characteristics like your age and gender. The actual cash value (ACV) of your car can also impact your premiums. All of these factors are measurements of risk, and the riskier you are to insure, the higher your premiums may be.

The balance on your loan is not considered an insurance risk factor, so paying off your car won’t have any bearing on your premium. However, paying off your loan is a good opportunity to assess how much coverage you need and to decide if it’s time to shop around for a more affordable car insurance policy.

Why paying off your car doesn’t automatically lower your insurance

Your car insurance will reimburse you for a covered loss or for liabilities you incur while driving. Premiums are calculated based on how likely your vehicle is to withstand a covered loss, how much it would cost to pay for repairs or replace the car, and your propensity for causing accidents or damage. Paying off your car loan doesn’t change your level of risk to the insurer, so it won’t have an impact on your premiums.

Steps to take after paying off your car

Although your car insurance premiums won’t automatically decrease after you pay off your car, you can use this opportunity to shop around for new coverage that may have lower rates. That’s because when you’re financing your car, your lender will likely require you to have full coverage auto insurance, including liability coverage in addition to comprehensive and collision coverage. Your lender will probably also require you to carry gap insurance. However, after you’ve paid off your loan, you can consider dropping comprehensive or collision coverage as well as gap insurance.

With that in mind, you can start shopping around for better rates. You may want to get quotes from multiple insurers and see what adding or subtracting comprehensive and collision coverage does to these rates.

Documentation you may need to update your policy after you pay off your car

When updating your car insurance policy, you might need a couple of documents on hand to share with the new insurer. These include a copy of your current policy’s declaration page as well as your driver’s license and that of any other driver in your household.

Should you drop full coverage after you pay off your car?

If you have full coverage car insurance because you’re financing your car, you might consider dropping full coverage and replacing it with a liability-only policy to save money on your premiums.

While dropping full coverage may save you money in the short term, you’ll need to take into account whether you can afford to pay for repairs – or for a new car – should your vehicle be damaged by a peril that would’ve otherwise been covered under the comp or collision insurance.

You can “eliminate coverage you don’t need, such as collision,” said Otto Larson, vice president and partner at Wallace & Turner Insurance in Ohio. “If your car is older – 10 or more years – it tends to significantly drop in value. Similar to raising your deductible to save money, you need to consider if you’d be comfortable paying out of pocket if your car was totaled.”

You need to take several factors into account:

1. Can you afford to replace your car? If not, then you probably shouldn’t drop full coverage.
2. Do you live in an area prone to severe weather, high crime rates, or other perils covered under comprehensive insurance? If so, then you should probably have it.

“Contact an independent insurance agent to find the best rates that fit your specific needs,” Larson said. “Independent agents work with a range of carriers, which means they can offer a variety of options based on your budget and coverage needs.”

Understanding car insurance requirements for financed vs owned vehicles

The main difference in car insurance requirements between financed cars and owned cars is that for financed cars, you’ll need to have full coverage, which includes comprehensive and collision. Lenders often require gap insurance as well to make up for any shortfall between the vehicle’s actual cash value and the loan balance should the car be stolen or totaled. For vehicles you own outright, you’ll only need to have your state’s required car insurance minimum; no state requires you to have comprehensive or collision coverage.

Does paying off your car affect your credit score and insurance rates?

When determining your car insurance rates, insurers may use an insurance score, also known as a credit-based insurance score, that takes your credit history into account. Insurance scores are similar to credit scores in that they measure your ability to make payments on time.

“Having a higher credit score may result in lower rates,” said Larson. “Most carriers use credit scores as a portion of the rate-setting process, although there are many other factors that determine how much you pay.”

If you have a car loan, paying it off could improve your credit, but not necessarily. Many people experience a temporary decline in their credit score after paying off their car loan, depending on the age of their other forms of debt, like credit cards or other loans. Credit bureaus like Experian base credit scores on consistent payment history and credit utilization, among other factors.

For that reason, it’s unlikely that paying off your car will directly result in lower insurance rates in and of itself, although missing a payment will certainly hurt your credit and insurance scores.

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Zack Sigel

 

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Zack Sigel is a writer and editor based in New York City. He has been managing editor at Policygenius and M1 Finance, where he led teams specialized in writing about business and finance, and he has also written about music and culture for Hyperallergic, VH1, Complex, and the Los Angeles Review of Books. Zack has a bachelor's degree from New York University, Tisch School of the Arts.