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Auto Insurance Scores: The Surprising Truth About How Credit Affects Car Insurance Rates

Carcrash.Flickr.Emily_Mason_BoydAs I often mention, I login to the free service CreditKarma every couple of months to keep track of my credit score. One time a year or so ago I logged in to see a new feature that differentiated my credit score from my auto insurance score. To my surprise, although my credit score was good (around 760), my auto insurance score was barely above average. In other words: not-so-good.  Now, I’ve always known that a good credit score is important for more than just borrowing money. A good credit score can save you money on car insurance, among other things.

Why does your credit score affect auto insurance rates?

According to FAQs from GMAC Insurance and Liberty Mutual, 92 percent of U.S. insurers use credit scoring in their underwriting. These insurances scores are, in fact, different from the credit scores banks use to underwrite loans. Using the same data contained in your credit report, insurance scores predict “the likelihood the consumer will be involved in an insurance claim in the future.”

Well, how does paying your bills on time have anything to do with safe driving? That’s a question I couldn’t answer, and lawmakers have wondered the same thing. The use of credit scores in insurance underwriting is banned in some states, including California and Massachusetts, but it’s legal in most states.

Obviously, insurers have data linking certain payment patterns contained in our credit reports with a higher claim rate. Even the insurers may not know the “why,” but they will use any factor that correlates to a higher claim rate to charge more for insurance. If you have a spotty driving record, you pay more for car insurance. If you smoke, you pay more for life insurance. If you have shaky credit, you pay more for everything.

This isn’t so great for insurance customers with poor credit, but the insurers like to point out that it saves most people money — creditworthy applicants pay less because they don’t need to subsidize higher-risk policyholders.

How do credit scores and insurance scores differ?

Every insurer uses complicated, proprietary formulas to underwrite their policies. This is why – if you have ever compared car insurance quotes from multiple insurance companies – quotes can vary by hundreds of dollars a year. Your credit score is simply one variable in these underwriting policies, along with factors including your driving record, insurance claim history, and where you live.

Not surprisingly, insurers don’t reveal their formulas, but one thing I was deduce from several insurer’s websites is that length of credit history may be the most important factor in your insurance score, followed by timely payments and few recent credit inquiries. This would also explain why my credit score is better than my insurance score. Although I have 12 years of credit history, that’s still not considered terribly long. (A long credit history is more like 15 or 20 years.)

Credit scores also heavily weight your utilization ratio — the percentage of your revolving credit limits that you’ve used — which may be less important in your insurance score.

Does your insurance score matter?

At the end of the day, I don’t pay a ton for car insurance. I don’t have any claims and I have a good driving record. So if my average insurance score is factoring into my car insurance rates, it’s not making my premiums unaffordable by any means.

The takeaway is this: Yes, your credit score can impact car insurance rates. Although the length of your credit history is weighted heavily insurance scores, it’s still most important to focus on the things you can control – mainly paying your bills on time and not over-applying for credit.

Any insurance underwriters out there who can shed more light on insurance scores? Have you had to pay more for insurance because of spotty credit? Share your thoughts in a comment…

About David Weliver

David Weliver is the founding editor of Money Under 30. He's a cited authority on personal finance and the unique money issues we face during our first two decades as adults. He lives in Maine with his wife and two children.

Comments

  1. David, the thing most people don’t realize is that many auto insurance companies use secondary credit reporting agencies rather than the Big Three (Equifax, Experian, TransUnion). Under the Fair Credit Reporting Act, you’re entitled to a copy of your credit report after an adverse decision, so it’s not a terrible idea to take a peek at whether these secondary credit reporting agencies are providing information that’s inaccurate or out-of-date.