How your credit history affects your car insurance premiums
It may surprise you to learn that when evaluating your car insurance premium, many insurers will base your premium amount at least partially on the contents of your credit report
While it's true that having bad credit doesn't make you a more dangerous driver, in terms of perception, many insurance companies feel that there is a correlation with those who have financial trouble and those who are reckless behind the wheel.
All of this translates into a perceived elevated amount of risk to insure your driving. And as you know, the higher the risk that's perceived by the insurer, the higher your premiums will be.
The amount your credit history affects your premium will generally depend on the provider. Some insurers may see bad credit as a less reliable indicator of a person's driving habits. Each insurance company uses its own internal formula to determine your level of risk.
On the other hand, while most insurers' algorithms differ in the details, they will typically all take into major factors such as driving record and age. The following is a breakdown of how credit risk is determined and thus weighed when factoring your insurance:
Previous Payment History
On average, your previous payment history accounts for roughly 35% of your score. It includes when you pay your bills and the number of late payments and delinquencies there are in your credit history.
Credit Owed - Approximately 30% of your score, this factors in how much you owe.
Number of Accounts - About 15% of your score is tied to the number of unpaid balances you have and how long the accounts have been open.
New Credit - 10% of your credit score is based on new cards, score inquiries, and other such credit checks
Usage - The types of credit cards you own and what you buy accounts for the last 10%. Generally, these factors will be used to gauge how much responsibility you demonstrate when using a credit card. If you are responsible with your wallet, an insurance company will assume you are the same with your car. Consequently, paying your bills on time and lowering your balance will save you money not only on interest, but on your car insurance as well.
How Insurance Scores are Tied to Credit
An insurance risk score is calculated in much the same way as your credit score. The difference is that insurance companies will weigh the scores differently. Credit risk scores want to identify how much you owe because further lending represents a higher risk.
Conversely, how much you owe has absolutely no bearing on how you drive. Rather, insurance companies simply want to see evidence that you are paying your bill regularly. They also want to see you are demonstrating good sense with money. Statistics show that those who have bad credit are more likely to file an auto insurance claim by more than 50 percent.
Correlation Versus Causation
There is debate over whether it is fair for insurance companies to use correlation to justify raising premiums. One can use the correlation argument to tie anything together, regardless of how irrelevant the two are to each other.
Nevertheless, while many have argued that using credit for evaluating driver risk should be prohibited, the fact remains that it still utilized by insurers for both home and auto insurance.
However, individuals with bad credit can take solace in the fact that not every insurance provider weighs credit scores as heavily as others. Talk to an insurance agent about how heavily credit scores are weighted in their particular formula, and what steps can be taken to reduce the effect your score will have on your premium.
Like this post? If so, check out the archives for lots more.
Know someone who would enjoy reading this? Feel free share it with them…
Be sure to subscribe to receive a new post of inspiration in your email inbox every day.