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How does my credit score affect my insurance rates?

Young Latino couple looking at their home expenses to illustrate finances

Bad credit, bad driver?

The Insurance Information Institute, a trade association for insurers, says drivers at the bottom of the credit heap file 40 percent more claims than drivers at the top of the pile. The institute doesn’t have such statistics yet for homeowner’s insurance claims.

Elizabeth Mosley, of III, says, “Insurance is based on risk, and research has shown that individuals who tend to delay paying bills on time — and then get low credit scores — file more claims, and that those claims are more expensive.” When insurers get stuck with a bad risk, she adds, other policyholders end up footing the bill.

But, she says, the news is not all bad. “A lot of people benefit from it. Two-thirds of policyholders have lower premiums because of their good credit record.”

The Boston Globe reports Massachusetts’ Attorney General and Boston’s Mayor questioned whether a customer’s credit history is really a good indicator of his propensity to file claims. They also charged the use of this information discriminates against minorities and low-income people and unfairly penalizes those who have experienced life crises such as layoffs or divorces.

Bad drivers better than credit risks

Insurers even claim the use of credit data in underwriting and renewing an insurance policy can help drivers with dings on their driving record.

“Even with an accident, you could qualify as a preferred customer with some insurance companies,” says Conning & Co.’s Clarence Smith. An auto insurer prices a policy based on a customer’s potential to file a future claim, not his potential to damage his car or have his stereo stolen. The two are not necessarily the same.

Ironically, someone with a flawed driving record but a clean credit record could pay less for auto insurance than someone with a spotless driving record but a spotty credit record. That’s how confident the insurance industry is in the relationship between credit scores and insurance risk.

A study by the Casualty Actuarial Society shows that people with prior driving violations or accidents and good credit have much better loss ratios than people with clean driving records and bad credit. And a study by the University of Texas says there is a “significant relationship” between credit scores and filed insurance claims.

Bob Hunter, the former Insurance Commissioner in Texas who is now director of insurance for the Consumer Federation of America, criticizes the practice. “Even if there is correlation, the insurance companies can’t explain why that is. Just because you can correlate something doesn’t mean you should use that as the basis to set rates or determine if a policy will be issued.”

Many factors, of course, are considered when insurers compute both auto and homeowner insurance rates. For autos, your age, the type of car you drive, how many miles you drive and whether you live in an urban or rural area are considered. For homeowners insurers, type of home, location, how close it is to a fire station, and construction are just a few of many factors. Just how big an impact your credit record has on your auto and homeowners insurance bill varies, based on where you live and the insurance company you choose as well as on what is in your credit report.

Even if you could find out your insurance score, it might not be all that helpful. Insurer-created insurance scores, unlike with FICO credit scores, have no uniform standard. A different insurance company, using its own scoring model, could assign you a different score and offer you vastly different rates. It is important, however, to understand that information in your credit report could affect the cost of your auto and homeowner’s insurance.

If you’re having credit problems, it’s best to stick with your current insurer until your credit record improves. If you must shop for a new policy, ask the insurer if it uses credit data in the decision-making process. Not all insurance companies do. If you have good to excellent credit, contact your agent to make sure you’re getting the best rate possible or consider getting bids from competitors who may appreciate more what a great non-risk you are.

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