The Real Truth About Credit Scoring

The insurance industry would like the public to believe they have found the holy grail of underwriting: credit scores. Since they now have this vehicle to make sure that only good drivers get good rates and bad ones pay more, insurers should be making lots of profits.

What’s that you say? They are all losing money? How can that be? Simple—credit scoring does not have the magic answer that the industry would have one believe.

For years, risk factors such as age, sex, use of the vehicle, miles driven and driving records were variables used to establish proper rates. Previously, insurance companies used things like types of jobs, race and marital status to discriminate and charge higher rates. Legislation was passed barring this type of action and insurers predicted it would break them because legislation took away rating variables. However, the companies survived and were held liable for discrimination. Now insurers are using credit in underwriting automobile and home insurance, and also at renewal time to raise people’s rates as high as 200 percent—in some cases for clients with no losses for the past five years.

More than 20 states have introduced legislation to ban credit scoring, but only Hawaii has so far succeeded in passing such a law. Its state legislature did not succumb to the pressures of the industry, and banned the use of credit scoring for underwriting of property and casualty insurance. Lawmakers also allowed Hawaii’s insurance commissioner to levy fines if carriers violated the rules. In many other states, similar bills started out strong but got watered down with amendments that would allow credit to be part of the underwriting make up.

Why has more than 50 percent of the industry started using credit in the last four years? Because the federal government passed the Graham-Leach-Bliley Act, allowing banks to enter the insurance business and the insurance companies in the banking business.

Insurers no longer want to take risks on uncertain things like weather losses or major lawsuits, but instead want to finance cars and homes. The way to get good loans is by pre-qualifying auto and homeowners policyholders. If a customer doesn’t have excellent credit, regardless of a clean insurance record, the carrier quotes higher rates because it will presumably be unable to finance the client’s car or sell him/her a mutual fund. All the major insurance companies have their own banking sources, many of which have been established in the last two years.

The people most affected by credit scoring will be those who can least afford increased premiums. A Nationwide agent in Houston spoke of an 85-year-old policyholder who could not afford new premium increases caused by credit scoring. The policyholder was on a fixed income and had no losses or tickets. Similar stories are being told around the country.

In San Antonio, several Allstate policyholders have filed a class action suit based on credit scoring. Jose C. DeHoyos, 65, is the lead plaintiff in the suit. In his 26 years with Allstate he has filed one claim for a hailstorm that occurred five years ago. The only blemishes on his credit history are two late payments totaling $131—one to a hospital and another to a gas station. His insurance premium, however, increased 25 percent.

In every town in every state consumers are asking: What does credit have to do with my automobile or home insurance? What about when major employers that lay off thousands of people and they miss a couple of payments? Are those people a greater risk today than they were yesterday?

Yet the National Association of Independent Insurers (NAII), a lobbying group for the insurance industry, uses policyholder money to pass legislation that could ultimately harm those policyholders. They use the same rhetoric as insurance companies: Credit scoring saves policyholders money and rates will go up if credit scoring is eliminated.

Insurance actuaries know how to juggle numbers to get reports to show the results they want. Chris Pummer with CBS MarketWatch reported that the California Department of Motor Vehicles did a study 30 years ago that showed people with dark hair had significantly worse driving records than those with blonde or red hair. Another study, in Australia, showed Geminis had the worst driving records among the astrological signs, followed by Taurus and Pisces. Those studies suggest that hair color and astrology might be considered a rating variable for underwriting. Indeed, the insurance industry may want to hire Miss Cleo as an underwriter.

Credit should be totally eliminated from the process of any rating or underwriting of property and casualty insurance. Until it is there will continue to be discrimination no matter what companies argue. The agents associations of Farmers, State Farm, Nationwide, Allstate and the Coalition of Exclusive Agents all have written positions supported the banning of credit scoring.
David Swift is president-elect, National Association of State Farm Agents Inc.; president, Coalition of Exclusive Insurance Agents Texas; and president, Texas Chapter of the National Association of State Farm Agents Inc.