I've seen this in use on other games and it works well. The main purpose is to prevent wreckers from bothering the actual racers. The main issue is if pit stops are relatively long enough to put a player down a lap, then collision (and normally drafting) is off.
There is a tiny time window (time window = car length / speed) during the time when a lapped car is crossing the finish line. This can be solved by using 1/2 lap counters is another (cars can't be close to each other and not be on the same 1/2 lap, so implementing a 1/2 lap counter solves the problem).
Drafting with collision off is another issue. Normally drafting is off when collision is off, to prevent two cars with collision off from teaming up and drafting through each other. This can be a problem if pit stops put players a lap down, which would prevent those players from drafting cars that hadn't pitted yet.
There is a tiny time window (time window = car length / speed) during the time when a lapped car is crossing the finish line. This can be solved by using 1/2 lap counters is another (cars can't be close to each other and not be on the same 1/2 lap, so implementing a 1/2 lap counter solves the problem).
Drafting with collision off is another issue. Normally drafting is off when collision is off, to prevent two cars with collision off from teaming up and drafting through each other. This can be a problem if pit stops put players a lap down, which would prevent those players from drafting cars that hadn't pitted yet.