March 10th, 2015
Several factors go into how much one ends up paying for their auto insurance premium. Since they must hedge their bets to recoup any pay-out due to an accident, agents must look at a variety of indicators to determine the probability that a loss might occur. Not only do insurance companies take one's driving history into account when establishing rates, but they also take other actuarial factors into consideration, such as one's credit history.
A credit score is based on an individual's cumulative history of paying back past monetary advances, whether a mortgage, a student loan or a store-issued credit card. Lending institutions use this information to establish the likelihood of an individual's ability to repay a loan. This data set determines whether a bank will extend a loan and what rate of interest it will carry.
Any number of issues might negatively affect one's credit score, such as a high frequency of past-due payments, accounts in arrears, a short or non-existent credit history and or an inordinate amount of debt - information which follows people around like a bad mark on a permanent record. Insurance companies take advantage of all this available data floating around. Credit.com reported about a study by Conning and Co. which found that over 90 percent of insurance companies use an individual's credit history data to compile an insurance risk score.
Credit histories and insurance risks
One of the main reasons insurance companies use this information is to assess potential risks among drivers. The University of Texas at Austin's McCombs School of Business found a strong correlation between insurance losses due to automobile accidents and an individual's poor credit history. That is, the lower credit rating a driver has, the greater the chances they will end up filing an insurance claim. An analogous study by the Federal Trade Commission also reached a similar conclusion.
This predictive knowledge allows agents to more accurately track the seemingly intrinsic relationship between a consumer's past credit history and their likelihood of being a high risk driver. By tracking which drivers have a higher chance of creating a loss for the company, insurance firms can more precisely differentiate between insured classes and therefore offer different insurance options accordingly.
Unfortunately, the studies were unable to clearly establish why this correlation exists. Regardless of this unknown relation between the two, insurance agents will continue to utilize this information to everyone's benefit.
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