Credit Scoring Struck Down - 8/23/08 Detroit News
Governor, Auto and Home Insurance Consumer Advocate Applaud Appeals Court Decisions that Allows OFIR to Prohibit Use of Credit Scoring

Disguised as a "discount," credit scoring is the insurance companies' practice of using a policyholder's record of paying household bills, as a significant factor in the policyholder's premium cost.  This Office strongly opposes Credit Scoring because it has nothing whatever to do with how the policyholder operates his or her vehicle.  In Michigan, the practice was introduced in 1996 as an obscure loophole in the Insurance Code. Public Act 514 allows companies to use one's credit history, occupation, level of education, and a host of other non-driving-related factors, in determining rates. When a policyholder applies for coverage, the company obtains this information (e.g. bill paying record, job, education), and based upon that information assigns the applicant to one of several "discount risk pools."  The company places the applicant in a preferred risk pool, where the best rates are offered, if the applicant has a high credit score, lofty job status, and/or a higher level of education.

The industry's position is that Credit Scoring is an accurate barometer of who is more likely or less likely to file a claim at some point in the future.  However, national experts have testified that, in reality, Credit Scoring is, at its core, just a proxy for income . [Source: Testimony of Eric S. Poe, COO, CURE Auto Insurance, May 21, 2008, U.S. House of Representatives, Subcommittee on Oversight and Investigations, House Committee on Financial Services].

[Source: Testimony of Eric S. Poe, COO, CURE Auto Insurance, May 21, 2008, U.S. House of Representatives, Subcommittee on Oversight and Investigations, House Committee on Financial Services].

The industry makes essentially two arguments in defense of credit scoring: (1) that according to its actuaries, credit scoring is a statistically accurate predictor of the frequency with which policyholders will file claims, and (2) that individuals have "control" over their bill paying behavior, and therefore, this "responsibility" trait also equates to fewer claims being filed.

            Neither argument holds water.

            First, the statistical pronouncements of insurance company actuaries should not be accepted as true on blind faith.  They should be independently tested by regulators who have the training and experience to put this company data to the test.

Statistics, the province of actuaries, are notoriously fickle and subject to bias and manipulation.  Mark Twain wrote, "There are three kinds of lies: lies, damned lies, and statistics." [Source: North American Review, July 5, 1907].   More recently, Joel Best addressed the issue in his national bestseller, "More Damned Lies and Statistics: How Numbers Confuse Public Issues."   In pertinent part, he wrote, "[P]eople create statistics: they choose what to count, how to go about counting, which of the resulting numbers they share with others . . . [A]ll statistics are products of people's choices and compromises, which inevitably shape, limit, and distort the outcome." [Source: University of California Press, September 6, 2004, p. XIII].

                The second industry argument, that bill-paying, education, occupation, and the like are within one's control, also fails the smell test.  At the Auto Insurance Affordability hearing in Grand Rapids, the industry's representative, Scott Hummel, Vice President of the Michigan Association of Insurance Agents testified: "You do have control over your educational level.  You have control over your income." [Source: Grand Rapids Automobile Insurance Affordability Hearing Transcript, p. 38].

               Suppose that the factory where the policyholder works suddenly closes.  While looking for another job, the family budget gets squeezed, and bills get further and further behind.  This is, unfortunately, not unfamiliar terrain for Michiganians in 2009, where the most recent data (from December, 2008) indicates a 10.6% unemployment rate - the nation's highest - and a hemorrhaging manufacturing sector.  [Source: Michigan Department of Energy Labor and Economic Growth, January 2009].

             The state's expert witness at the Auto Insurance Affordability Hearings in Grand Rapids rejected the industry's usage of credit scoring.  He testified, "[T]he only way [insurance companies] can pay for the discount for somebody who gets that credit scoring discount is to charge somebody else more. . . And the consumers it penalizes generally are going to be those middle-class consumers who are already having a difficult time paying for insurance." [Source: Grand Rapids Auto Insurance Affordability Hearing, Testimony of Birney Birnbaum, Transcript p. 24]. 

               The policyholder in the plant closing example, above, had no control over the decision to close the plant. And the foreseeable result that his or her ability to pay the rent, heat bill, car note, groceries, and the like, will suffer, while trying to find a new job in a constricting economy.  This is life.  The best that can be said about the industry's position is that it is shockingly detached from the economic realities facing Michigan's Middle Class.  The most un-charitable characterization is that insurance companies are intentionally exploiting less-well-off consumers, in favor of higher income consumers, to line their own pockets.

            Consider further the industry's position that one has control over the level of education obtained.  This is no less wrong-headed, alternative universe thinking.  Suppose that the policyholder was prevented from pursuing education beyond high school because of unavoidable family obligations, or because he or she had to work, or because of an illness, or because of finances, or any number of other real world reasons.  None of these scenarios are within one's control, nor do they correlate - in any way - to the manner in which the policyholder operates a vehicle.

            In his book "Equity and Excellence in American Higher Education," former Princeton University President William Bowen, wrote: "In his Brookings Institution-sponsored study of the subsequent educational profiles of students who were eighth graders in 1988, Thomas Kane found that a person from a family in the top economic quintile was 34 percentage points more likely to enroll in college than a person in the bottom quintile."  The author concludes that: "The most obvious potential barrier for students from low-income families who have high educational aspirations is the direct financial cost of college." [Source: William G. Bowen, Martin A. Kurzweil, and Eugene M. Tobin, University of Virginia Press, 2005, pp. 85, 87].

            Credit scores are frequently wrong. In former Michigan Insurance Commissioner Linda Watters' Insurance Bureau Bulletin No. 2003-2, she reported that 30% of credit history files contain serious errors.  Incorrect or paid-off balances can remain on one's credit report long after they have been resolved.  And it takes time, expense, and frustration to have credit reports cleared up.

            There are no uniform standards for credit reporting.  Some businesses will report a delinquent bill to a credit reporting agency, immediately.  Some will not submit a report for months.  Others do not report at all.  Commissioner Watters' research indicated that an individual's credit score could vary as much as 40 points, simply due to which credit reporting agency did the reporting. [Source:  Michigan Insurance Bureau Bulletin No. 2003-2].

                The Chief Product Management Expert for Farmers Insurance Group, Bill Martin, gave revealing testimony on how the Michigan insurance industry would view a ban on credit scoring.  His testimony before the State Legislature was that, "Because a ban on credit scoring really doesn't do anything to insurance costs, it only changes the way we rate for those costs.  We would end up charging everybody in this state an average rate, an average across all scores, with a ban.  And that of course would mean that people with better than average insurance scores would see their rates go up and people with worse than average insurance scores would see their rates go down." [Source:  Bill Martin, Michigan State Senate Committee on Banking and Financial Institutions, June 24, 2004].  

              This testimony is revealing because it makes plain some essential truths about how the insurance industry sees the Michigan market.  First and foremost, Mr. Martin's declaration that, faced with a ban on Credit Scoring, Farmers Insurance Group, one of the state's largest insurers, would just "charg[e] everybody an average rate," illegally disregards the State Supreme Court's direct order in Shavers v. Attorney General, that Michigan No Fault requires affordable rates for individual policyholders, not an average rate.  Again, Chief Justice G. Mennen Williams wrote -- in unambiguous language --  that, under No Fault, the state must "[p]rotect individual motorists , who must purchase no-fault insurance from private insurers, from potentially unfair insurance rates." [Source: Shavers v. Attorney General, p. 580]. Second, the Martin testimony is at odds with MCL 500.2111, where the Insurance Code mandates that insurers rate individuals on the eight (8) explicit rating factors, which focus on an individual's years of driving experience, driving record, type of vehicle, number of miles driven, and other objective factors that must be used in determining rates.

            So, Michigan insurers have been allowed to engage in a zero sum game.  One policyholder is the beneficiary of a lower rate based upon questionable assumptions, while another policyholder's rates are correspondingly increased using the same subjective reasoning. This is wrong.  It should be stopped.

            Voters in California (in 1996), and in Maryland (in 2002), took matters into their own hands and banned credit scoring at the polls. In 2002, Washington State's Legislature passed a strong bill (ESHB 2544) to protect consumers from credit scoring abuses.  The Washington State Insurance Commissioner implemented a regulation in 2004 (Rule RCW 34.05.360), to further educate consumers about their rights in this area.

            In 2007, the Alaska Supreme Court, in Alaska Division of Insurance v. Progressive Cas. Ins. Co., greatly restricted credit scoring usage in that state. [Source: Docket No. S-12188, WL No. 2333341, August 17, 2007].  U.S. Secretary of Homeland Security, Janet Napolitano, signed legislation to restrict the use of credit scoring when she was Governor of Arizona. [Source: House Bill 2032, May 6, 2003; the full legislation can be viewed at www.azleg.state.az.us].