If you ask me, renting a car is the ONLY way to do Iceland justice. The diverse topography of this tiny island is mesmerizing and there is really no other way to see it all. That being said, if you are planning to be in Iceland for 4 days or less, don't rent a car. That won't be enough time to drive the whole ring road and you can get to pretty much everything in the Golden Circle by tour bus and Reykjavik is totally walkable.
Since most of the sights you will be driving to are natural wonders, they don't always have an exact address. This is where GPS coordinates come in really handy. You can either bring your own GPS (if it has international capabilities) or rent one from the car rental company. They typically run you about $10 per day. Oh, and the navigation voice DOES speak English.
Most companies have some insurance covered automatically as part of the rental price. For Blue Car Rental, they included theft protection, gravel protection, and a accident waiver. They will try to get you to buy sand and ash insurance but that only reduces the cost of damages and if Eyjafjallajökull decides to erupt again while you are there, the car will be the least of your worries.
Also a note about the gravel protection. We ended up having to pay an additional $150 when we returned the car because there was a small gravel nick at the base of our windshield. The gravel protection only covers damage to the hood, windscreen, and grill of the car, not the windshield. This was really upsetting to us because there isn't even an insurance option we could have selected to cover this. So just factor that into your budget because there are so many gravel roads in Iceland, this will likely happen to you too.
I highly recommend paying a little bit extra for a 4x4 vehicle. There are certain roads that are marked "F" where only 4x4 vehicles are permitted and you can actually be fined for attempting them in a 2WD. And, while most of the ring road is in great condition, there is a small section on the eastern side of the country where the ring road turns into a gravel road for several miles. So if it happens to be raining when you are driving that section you'll be happy you opted for the 4x4.
You can save money (about $10 per day) if you know how to drive a manual transmission. If you don't know how, get a friend to teach you before you go. It's a good life skill! I was actually inspired to go to Iceland when my friend asked me to teach him how to drive stick shift for his trip to Iceland. He was a fast learner and it only took him a few hours to get the hang of it.
Depending on how many people you are bringing along with you on your adventure, you'll want to consider different car sizes. We were 2 people so we went with the Suzuki Jimny. This car was perfect for hauling us and our gear around the country safely. We loved our trusty little car and named him Jimmy–creative, I know.
Iceland is one of the safest places in the world so your main safety concern should be the weather and terrain. Shit happens and when you are 100km from the nearest anything, breaking down or getting in an accident is a big problem. Iceland's budding tourism industry takes this risk very seriously and they have tons of tools for foreigners to use for road safety.
Take 10 minutes to peruse the Safe Travel Iceland website and download the 112 app. (112 is Iceland's version of 911.) Be sure to check out their guide to driving in Iceland complete with a pretty hilarious animated video. I also recommend printing a road sign guide like this one to help you decipher Icelandic road signs.
Watch out for changing weather and livestock. On the road we experienced a 30 second hail storm, a random 50 ft patch of snow on the road in the middle of a volcanic rock desert, and a galloping reindeer trying to find his friends–all in one day!
Driving in Iceland isn't without its hazards but it is really quite easy to do. I highly recommend it for everyone! Even if you've never driven in a foreign country.
Are you ready for your Icelandic roadtrip?
Let me know if you have any questions before you go.
Go confidently travelers!