“I believe that sometimes you gotta wreck the truck to get the insurance money to make the truck payment.” – Larry the Cable Guy (Blue Collar Comedy Tour Rides Again)
All of us have applied for home or auto insurance at some point in our adult lives. I’m sure that the thought crossed most of our minds of: “Why did they have to check my credit reports to determine my insurance rates? They have nothing to do with each other.” The fact is that, statistically speaking, they have very much to do with each other.
How Your Credit Score Got Involved
In 2000, MetLife actuary James E. Monaghan published a study that matched 170,000 auto policies to the credit histories of the drivers. A correlation between negative marks on a credit report and higher loss ratio for insurers was discovered.
The study showed that drivers who had no collection accounts cost the insurers an average of 74.1 cents for each dollar paid in premiums. Drivers who had one collection account had 97.5 cents in claims per premium dollar billed. Those who had three or more collection accounts cost insurers about $1.19 per premium dollar billed to the driver. The University of Texas at Austin conducted a study and discovered a significant link between auto losses and credit scores.
The Texas Department of Insurance conducted an even larger study of 2 million auto and homeowners policies. That study also found a strong link between credit scores and insurance claims.
In 2001 the majority of U.S. auto insurers used credit information and credit-based insurance scoring to determine applicant’s eligibility. Homeowners’ insurance companies are following suit, according to a survey conducted by Conning & Co.
The practice of utilizing credit information to determine insurance eligibility has been lawful since the passing of the Fair Credit Reporting Act in 1970.
Fair Isaac’s Insurance Scoring Model
In 1970, because Fair Isaac has had nearly 2 decades experience in determining credit risk, it seems almost natural that the insurance industry would look to them for help in creating an insurance scoring model to weigh the insurance companies’ risk. Utilizing drivers credit reports, the following is a model of what they used to calculate their risk.
- 40 percent based on payment history. The more you pay your bills on time, the better your payment history gets.
- 30 percent based on credit utilization. This is based on the balances you owe on your revolving loans such as credit cards. It is usually recommended that you keep credit card balances paid down to around 30 percent of the available credit limit.
- 15 percent based on types of new credit. This is determined by detecting if any new lines of credit have been open.
- 10 percent based on length of credit history. The longer you have maintained a line of credit in good standing, the better it is for your credit score.
- 5 percent based on credit mix. This is based on having different types of credit such as, credit cards (revolving loans) and car loans (installment loans).
State Farm, Allstate, and Farmer’s also have their own custom insurance scores using formulas they, and not Fair Isaac, developed.
Consumers Do Have Rights
Consumers do have protections. The Fair Credit Reporting Act requires that insurers notify the applicant if information in their credit report has affected a policy decision. The insurance company should include the following information:
- The reasons for the insurer’s decision
- The bureaus from which the credit information was obtained
- Instruction on how the applicant can get a credit report
Insurers share their claims experience in a huge database called C.L.U.E., for Comprehensive Loss Underwriters Exchange. You as a consumer may access your free annual C.L.U.E. report because of your rights contained in the FACT (Fair And Accurate Credit Transactions) Act. Simply call 1-866-312-8076 for information on how to obtain your report.
How Can I Get The Best Deal?
The course of action that homeowner policyholders should follow is that of prevention along with silence.
Things you should be paying attention to:
- Inspect your home regularly, checking your roof and foundation for standing water or leaks.
- Fix any leaks immediately.
- Be sure that the hoses on older washing machines and dishwashers are in good repair, and not cracking. Replace any hoses at the first sign of weakening.
- Make sure your pipes are properly insulated to prevent cold weather from freezing the pipes.
If your home does incur water damage, regardless of having taken precautions, consider paying for the repairs yourself. You may want to consider not mentioning any water damage to your insurance company. You don’t want the stigma of “water damage” to be attached to your home, which could save you money in higher premiums down the line.
A Tip on Auto Insurance
Check the “Blue Book” value of any of your older cars. It is likely that if an older car is wrecked or damaged, the insurance company will only pay out the equivalent “Blue Book” value of the vehicle. For this reason, you may want to consider dropping collision and comprehensive insurance. Depending on the value of your older vehicle, you may be better off having your wrecked car towed to an automobile recycling center to have it weighed and to get the scrap value of your car in cash.
Credit and insurance have become a part of our everyday lives. Knowing more about how the process works, and why insurance companies do what they do, can make your search for the best rates a bit easier. Just remember, with a bit of planning and personal responsibility, you won’t have to “wreck the truck to get the insurance money to make the truck payment.”