Maryland lawmakers are considering a measure to stop insurance companies from using credit scores to determine premiums for auto insurance policies, per the Insurance Journal.
The state already prohibits auto insurers from using credit scoring as an underwriting tool for their products. Additionally, homeowners insurance companies in Maryland are already barred from using credit history for underwriting and rating.
What’s the Argument Here?
Let’s talk about both sides of the issue so we can get a good, objective overview to determine what’s at stake. Then you can make your own mind up on the matter.
For Credit Scoring:
Insurers are always looking for ways to offer lower insurance premiums to attract more business. At the same time, they’re trying to predict which risks (people or property) produce the most claims (frequency) and the most expensive claims (severity).
Industry analysts have found that there is a positive correlation between a person’s credit history and their propensity to file insurance claims (NOT THEIR PROPENSITY TO SUFFER LOSSES OR GET INTO ACCIDENTS)…just to file claims.
As a result, those who have more favorable credit histories are offered deeply discounted premiums (whether auto or property insurance) and those with less-than-perfect credit histories are generally subjected to higher premiums for the same coverage (insurance score).
Against Credit Scoring:
Many people believe the credit scoring model used by insurance companies is discriminatory against lower socioeconomic classes. The complaint is that due to their typically-lower credit scores, they are forced to purchase insurance coverage at a much higher premium, or risk driving without insurance.
And not being able to afford coverage can turn into a vicious cycle. If someone is caught driving without the state mandatory minimum car insurance coverage, they may suffer huge fines and see their credit decline…making their insurance even more expensive!
Further, lenders require homeowners insurance (or at least hazard insurance) to be in place in order to qualify for a mortgage. Those with lower credit scores, sometimes as a result of attempting to get a loan, may have to pay more for their coverage, which makes it more difficult to qualify for said loan.
What’s the Difference Between a “Pricing” and an “Underwriting” Tool?
Insurers have both underwriting and pricing in their tool belt to control the type and amount of risk they are comfortable insuring. For the record, a “risk” is a person or piece of property to be insured. That may sound a little harsh, but the insurance industry is based entirely on financing risk for a profit.
Each type of insurer targets a specific type of risk they are comfortable with insuring. Preferred carriers are not interested in insuring people with liability-only policies with poor driving records, and non-standard carriers typically do not target full coverage auto insurance candidates with perfect driving records.
At the end of the day, it comes down to the overall cost of expected claims and how much you are charged for coverage. There are many factors considered in how insurance rates are determined.
Underwriting as a Tool
This is a pretty straightforward way to determine the type of customer you insure. Underwriting guidelines are determined for a particular insurer’s product. Insurance company underwriters (or computers nowadays) compare characteristics of the applicants against the guidelines.
If you don’t meet the basic guidelines, your application for coverage is denied. An example would be an underwriting guideline that prohibits a potential insured from having more than two tickets within a three-year period.
If you got three tickets within the last three years prior to applying for coverage, you simply won’t qualify…at any premium…which leads us to the pricing concept as a tool for insurers to control who they choose to insure.
Pricing as a Tool
The final premium needs to be determined in the event a prospective insured qualifies for coverage with a particular policy, i.e. meets the guidelines.
Of course, the guidelines cannot be discriminatory by any means, so there are many of us who “qualify” for coverage based on the guidelines, but the insurer doesn’t necessarily want to offer us coverage because we exhibit a high amount of risk.
An insured’s age is an example of a characteristic that insurers cannot simply deny coverage for. Teenage drivers are considered high risk (why is car insurance so high for teenagers?).
However, an insurer cannot deny coverage because someone is too young or too old. What can the insurer do to combat this?
Well, they must offer coverage, but can certainly crank up the premium to a point where you won’t accept it. For many, a difference of a few hundred dollars in premium will determine whether or not they can/will purchase a policy.
There are several insurers out there that do not use credit scoring in their program whatsoever. The catch? Their rates are typically higher than what you could get with a company that uses credit, assuming you have good credit.
Basically, they have to charge EVERYONE more to cover the cost of losses for those they can’t specifically target as higher risk. Instead of Driver A with good credit paying $800 and Driver B with bad credit paying $1,200 for the same coverage, both Driver A and Driver B pay $1,000.
Contact a local independent insurance agent if you aren’t sure you’re getting the best deal out there.
After all, how can you be sure you are not being overcharged if the agent (captive agent) only sells insurance for one company?