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For decades, many insurers have chosen to review credit information when evaluating applications for insurance. This practice emerged because credit history has been closely correlated with insurance risk. Simply put, individuals with weak credit statistically incur greater insurable losses than people with strong credit. This correlation has been affirmed by numerous private and public sector studies.
Because credit-based insurance scores improve the ability of insurers to assess risk, this information brings greater accuracy and fairness to insurance rates. Consumers benefit because they are less likely to subsidize individuals who are greater insurance risks.
Contrary to the beliefs of some, insurers do not collect information on race or income, so such information is not reflected in insurance scores. In addition, a range of other factors beyond credit data plays a role in evaluating insurance applications and setting rates. For instance, geographical area and driving history are used to set auto insurance rates. A home’s construction and location factor into homeowners insurance.
Key Public Policy and Industry Issues
Several states regulate how insurers use credit-based scores, and some require insurers to inform applicants if their scores have an adverse impact on rates. The federal government has also taken steps to ensure that consumers are treated fairly by companies that utilize credit information. Federal policy initiatives in this area include:
  • Congressionally Mandated FTC Study on the Use of Credit Scores—The Federal Trade Commission (FTC) is currently conducting a congressionally mandated study of the use of credit information by providers of homeowners insurance. As part of this study, the FTC will make recommendations as needed for legislative and administrative actions. In a similar study completed in 2007, the FTC determined that auto insurers are able to price products more accurately by using credit history information.
  • Uniform Federal Privacy Rules—Under U.S. law established in 1970, amended in 1996, and permanently reauthorized in 2003, federal privacy rules concerning credit scores preempt state regulation. As a result, insurers and other financial companies that use credit information are able to operate under a uniform set of rules. In addition to providing greater efficiency to insurers, these federal rules provide consumers with greater control over the use of their credit information and improve fraud and identity-theft protections.
  • Consumer Education—While the use of credit information by the insurance industry provides value to consumers, there is still misunderstanding about credit scoring. The federal General Accountability Office (GAO) has recommended that the U.S. Department of the Treasury and the FTC take steps to better educate consumers about credit scoring, particularly targeting people with less experience obtaining credit (e.g., younger people) and less education.
Read more
  • III White Paper—Credit Scoring
    A detailed discussion of the use of credit-based insurance scores, including information on state-specific regulations and federal activities.