Insurance Scoring or What Does my Credit Rating Have to do with my Insurance premiums?

What is scoring? Insurance scoring is the practice by insurers of using a "score," based on credit history, to screen potential customers for underwriting acceptability. The "scoring" methodology was originally developed in the context of evaluating loan applicants. Credit bureaus began working with Fair Issac Co. to develop generic scoring models to identify the comparative risk of delinquency among an applicant for credit based on characteristics within the credit report.

Insurers then became interested in developing models that could predict underwriting results. The theory is that someone with a poor credit history is more likely to file a claim. An insurance score is the result of an objective, statistical analysis of credit report information. This information identifies the relative likelihood of an insurance loss, based on the actual loss experience of individuals with similar financial patterns. The insurance score does not measure an individual's credit worthiness or ability to pay insurance premiums. Insurers believe the use of scoring improves their decision making and increases their ability to evaluate applicants consistently and objectively.

How an insurance scoring model is developed Hundreds of thousands of records from a variety of insurance companies, whose structure and performance reflect the industry as a whole, are analyzed and 12 months later they are measured against claim performance. The records contain earned premium and incurred losses for a specific period of time. Each insurance record is matched to a policyholder's credit report as of the beginning of the time period. This provides a database that contains credit report attributes and subsequent earned premiums and incurred losses.

Potentially predictive attributes are extracted from public records (bankruptcies, tax liens, etc.); credit card and other loan accounts (balance, delinquency and payments due); and the number of inquiries made about the credit report. (Information such as income, ethnicity and location are not used in the evaluation process.) The predictive value of each characteristic is evaluated as to its correlation to loss ratio, and the most predictive characteristics are weighed so that one sum of these individual characteristics (weighed according to their value in predicting loss) is a score predicting expected loss-ratio performance. The scoring models are installed as software at credit bureaus. Then, any individual insurance company can test and validate the scoring models on its own book of business.

Scoring factors and the model itself are reviewed periodically and re-evaluated in accordance with changing economic circumstances and changes in any credit-reporting standards and procedures. An applicant's insurance score is an evaluation of risk of loss at a particular point in time. Therefore, as people's financial behavior changes, so too do their scores.

The insurer must update the policyholder’s credit information at least every 36 months from the last time the insurer obtained the current credit information. This requirement is waived if the consumer already is in the best-priced tier (or carrier within a carrier group). Also, policyholders can request rerating using current data if they have corrected information in their consumer report; or, prior to a renewal, if the insurer uses credit in determining renewal premium.

 

PIA - Matthew F. Guilbault, Esq.

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