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Credit-based insurance premiums hurt minorities

FTC study confirms African Americans & Hispanics pay more when credit scores are used to set premiums

Tuesday, July 24, 2007

FTC Study Confirms That Credit-Based Insurance Scores
Mean African Americans & Hispanics Pay More for Auto Coverage

WASHINGTON, D.C. – A study released today by the Federal Trade Commission confirms that African American and Hispanic drivers pay more for auto insurance because insurers use credit scores to determine premiums. The use of credit scores in insurance has long been a controversial practice because of its discriminatory impact on low income and minority families.

“It’s not fair that consumers with spotless driving records can be penalized with higher premiums just because of their credit score,” said Norma Garcia, Senior Staff Attorney with Consumers Union. “Insurance premiums should be based on the risk of an accident, not a consumer’s bill paying record for other goods and services.

The FTC report concluded that African Americans and Hispanics are substantially overrepresented among consumers with the lowest credit scores. It found that “more than one-half of all African Americans have credit scores in the lowest quarter of the overall score distribution, and one-half of all Hispanics have credit scores in the lowest third of the overall score distribution.” As a result, African Americans and Hispanics pay more, on average, for auto insurance coverage than non-Hispanic whites and Asians.

“While insurance companies may not intend to discriminate, the result is the same,” said Garcia. “Basing insurance premiums on credit scores means low income and minority consumers are forced to pay higher rates than others with the same driving record or claims history.”

The insurance industry has argued that drivers with low credit scores are more likely to get into an accident even though there is no evidence to support such a claim. The FTC did not address whether drivers with lower credit scores were more likely to get into accidents, but found that there is a correlation between a low credit score and a higher chance of filing a future claim. In other words, drivers with lower credit scores were more likely to file a claim in the event they got into an accident. Consumers Union does not believe that justifies the use of credit scores for insurance because of its discriminatory impact.

“It’s simply unfair for insurers to charge consumers more up front just because of the possibility they might use their policy at some point in the future,” said Garcia. “Credit scores shouldn’t be a factor when it comes to pricing insurance.”

Insurance companies have kept their scoring formulas secret, preventing an independent, public review of the actuarial soundness of their scoring models. The FTC report confirmed that there is no single mathematical model for how insurers use credit information to influence insurance decisions or for how they derive insurance scores from credit information. It’s hard for consumers to gauge what they can do differently to increase an insurance score, or even to know what factors are viewed more favorably by different insurers. Even consumers with good credit can be forced to pay higher premiums because of the peculiar way that insurance companies weigh credit data.

Using credit scores to price insurance also is problematic for consumers since the score is derived from information from credit reports, which may not be completely accurate. A 2002 study by the Consumer Federation of America estimated that tens of millions of Americans are unfairly penalized for incorrect information in their credit reports. More recently, a 2004 study by the U.S. Public Interest Research Group found that one in four credit reports contained errors serious enough to cause consumers to be denied credit, housing, or even a job.

“Insurance companies insist that credit scores are a reliable predictor of future claims and yet they have no idea whether the credit information they are using is accurate,” said Garcia. “Too many credit reports contain serious errors. This can result in a lower insurance score and higher premiums. Even those consumers with good credit may have a lower than expected insurance score because of the peculiar ways insurance companies weigh credit behavior.”

The use of credit scoring in insurance is unnecessary because insurers have a variety of remedies available to protect themselves against consumers who file too many claims. Insurers can raise premiums for those who file too many claims or even terminate claims-prone consumers. These measures don’t lead to the same unfair results for consumers when credit information is used to underwrite a policy. Unlike credit scoring, these actions can be based upon verifiable risk behavior, not on information with no causal relationship to risk of loss.

Norma Garcia: 415-431-6747, ext 107