If you own and operate a car, most states require car insurance. Car insurance covers the financial costs that can come from a car accident — repairs, certain medical expenses and lawsuits. Depending on the type of coverage you get, car insurance also can cover the cost of loss and repairs caused by minor accidents, theft or vandalism.

What is car insurance?

Car insurance covers the cost of physical damage to your vehicle and liability for injuries or damaged property you have pay to repair if you cause or are involved in a car accident. If another person is driving your car, your car insurance policy also will cover them and protect you from liability if they get in an accident.

Depending on your state and the coverage you buy, it also can cover things, such as medical costs for injured passengers, towing charges, rental car charges and losses resulting from being hit by a driver who isn’t insured. You pay either a semi-annual, quarterly or monthly premium to stay insured over a certain term, or length of time.

Why do I need car insurance?

In most states, you are legally required to have some basic insurance for every car you register and you should buy liability coverage in case you cause an accident and someone sues you for damages. Liability coverage protects you from personal financial loss if someone were to sue you for personal or medical damages related to a car accident.

Even in the few states where car insurance isn’t mandatory, it’s the most common way of protecting against the huge financial risk that comes from owning and driving a car. With car accidents being a leading cause of injury and death in the United States, driving without even the minimum protection is a risk you shouldn’t take. Even if you are in control behind the wheel, you can’t predict the actions of others — driving uninsured isn’t worth the risk.

What are the types of car insurance?

There are five common types of car insurance you’ll read about: liability, collision, comprehensive, personal injury protection (PIP) and uninsured or underinsured motorist. Keep in mind though that car insurance is state-specific so you may not be offered all of these types of coverage, or you may be offered different ones that work similarly.

Liability coverage

In most states, you need to show proof of liability insurance to register and legally drive a car. The purpose of liability coverage is the same as homeowner’s insurance. It protects you from claims from someone else who is injured in an accident or whose property is damaged.

Liability coverage is usually described on your policy as a series of numbers: 100/300/50. These numbers mean that the insurance company will pay up to $100,000 for injury to any one person, $300,000 for all injured people combined and $50,000 for property damage caused by the accident. It doesn’t usually cost much to boost your liability coverage higher than the minimums — and you should. A low limit such as $15,000 won’t go far if you have an accident or if you are sued because of an accident. You need to have enough liability coverage so you won’t be stuck with the bill in the event of a major accident.

Collision coverage

This type of car insurance pays for the damage to your car as a result of a collision with another car or object. If you have a car loan, then your lender likely requires collision insurance.

Most types of collision insurance also have a deductible. The deductible is the amount of money you agree to pay out-of-pocket to cover any accident-related expenses. When you make a claim, you first must pay the deductible — your policy will specify your deductible amount — to cover some of the related costs. Once you pay the deductible, the rest of your insurance coverage will kick in.

How much deductible you have affects your monthly premium. If you have a higher deductible, you will pay a lower monthly premium for your insurance. If you make enough money to always have emergency savings on hand, we recommend paying a slightly higher deductible to keep your monthly payments down. Agreeing to pay a $1,000 deductible for each accident will give you a reasonable monthly premium.

Comprehensive coverage

This type of car insurance will cover the damages to your car caused by fire, theft, tornado, hail, water, falling objects, natural disaster and act of vandalism. In most comprehensive coverage policies, there is usually either a very small deductible or no deductible at all.

If you want the security of knowing that your insurance will help you pay for replacement windshields and windows, tires, and repairs on dents and scratches and other minor fixes, then you’ll want comprehensive coverage. This is a good option for someone living in a more urban area, a higher theft area or somewhere with severe weather conditions. It’s up to you whether you decide to get comprehensive coverage — it costs you more, but also can give you peace of mind.

Personal Injury Protection (PIP)

This type of coverage will pay for the medical, hospital and funeral costs for you and your family and all passengers in the car in the event of an accident. Also called medical coverage insurance, this coverage kicks in regardless of fault. There are a few states that require that you have PIP coverage. Check your state laws to see if it requires this extra coverage.

Uninsured or under-insured motorist coverage

This type of coverage is optional, depending on your state. It pays for bodily injuries and property damage due to an uninsured or under-insured driver. In other words, if the other driver is legally at fault for the accident, but has little or no car insurance to cover the damages, your insurance company will pay your medical costs.

What kind of coverage should I get?

Basically, when you select an auto insurance policy, you decide how much you are willing to pay out of your own pocket versus how much you want the insurance company to cover. Once you decide this, you're all set to purchase your car insurance policy.

Here are some common guidelines to use when shopping for a car insurance policy:

Amount of coverage you need

State law will most likely determine the minimum amount of insurance you need, but knowing what you most likely will need is the key to making sure you are appropriately covered. Most states require that you purchase liability insurance. That’s what pays for bodily injuries and property damage that you cause another driver as a result of an accident, but depending on your type of coverage, there are exclusions. After you know your state laws and determined how much insurance you need, now you put all of the different pieces of car insurance coverage together into one single policy.

Amount of coverage you can afford

You should have minimum liability coverage in case you injure someone because his or her attorney could sue you. You need to determine much you can afford to lose in the event of an accident and what makes you fee most confident in case of an accident. After all, if you do get into an accident, it is much better for the insurance company to be responsible than for you to be personally responsible.

Value of your car

The decision to buy collision and comprehensive coverage usually is based on the value of your car. If you own a very expensive car, such as $50,000 car, it would most certainly be worth it to pay an extra $200 annually insure that your car will be replaced if you were in accident. If your car is worth less than $2,000, it’s not worth it to buy comprehensive and collision. In between, it’s a judgment call based on the rates you’ll pay and your ability to fix or replace the car should something happen. If you have a car loan, however, most lenders will require you carry more than just liability coverage, such as additional collision coverage, to reduce the risk of the lender losing money.

When should I buy car insurance?

You need to buy or update your car insurance when you buy a car, receive a car from someone else, move to a new place (because state requirements are different or add a new driver to your policy.

When you are budgeting to buy a new car, check out the insurance rates on your car choices. Older cars require less insurance than newer cars, because older cars are worth less. New and expensive cars cost more to insure because they are worth more and therefore would be more expensive to repair or replace. A call to your insurance agent to get this information up front helps to rule out choices when insurance is just too high to pay.

How do I buy car insurance?

There are a couple ways to purchase car insurance. You can buy directly from an insurance agent either face to face at a local insurance company in your area or you might work with someone anonymous if you buy online or over the phone.

Before you purchase your insurance, you can use online sites to review different policies and rates and to get quotes from different providers. A few useful sites are:

• netQuote: www.netquote.com/nq/rm-general.aspx

• InsWeb Corporation: www.insweb.com

• Insurance.com: www.insurance.com

• Bankrate: www.bankrate.com/insurance.aspx

• Lending Tree: www.lendingtree.com/insurance

Premiums are based on historical data and insurance companies already have determined that certain types of drivers have a higher probability of getting into accidents than others. If you’re under a certain age, have a bad driving history or drive a higher-risk car (a sports car, for example), you may have higher premiums.

In general, car insurance premiums are based on factors, such as:

• Model, style and age of car
• Driver’s age, sex and marital status
• Driving record (including number and type of traffic tickets and accident record)
• Age and sex of any other drivers of the car
• Location of where the car is garaged
• The purpose of the car and its usage — whether it’s for personal or business use and total miles driven per year

Many providers offer insurance discounts on premiums to customers based on a number of factors.

• Good driver discount
• Multi-policy discount
• Vehicle safety discount
• Multi-car discounts
• Good grades discount (for students)

Before you buy, ask your insurance agent about specific discounts that may be available to you. They could save you a lot of money.

Words to know

Unsure about something you read? Many of the financial terms you came across in this article are defined in our financial glossary. A-Z Glossary

Links we like

Here are a couple online features you might find useful:

• Insurance Institute for Highway Safety: www.carsafety.org

• Insurance Research Council: www.ircweb.org

• Consumer Watchdog: www.consumerwatchdog.org

Rate comparison sites:

• netQuote: www.netquote.com/nq/rm-general.aspx

• InsWeb Corporation: www.insweb.com

• Insurance.com: www.insurance.com

• Bankrate: www.bankrate.com/insurance.aspx

• Lending Tree: www.lendingtree.com/insurance