Study: Insurance companies' reliance on credit scores lead to higher prices for minorities

In New Mexico, an average driver with at poor credit could pay $733 annually

A new report released by a consumer advocacy agency says that the use of credit reporting from car insurance companies to help determine driver premiums can perpetuate racial inequity.

The Consumer Federation of America spent two years analyzing data, according to Michael DeLong, research and advocacy associate for CFA and co-author of the report, The One Hundred Percent Penalty. The use of credit scores to determine car insurance premiums only reinforces and amplifies structural racism in the United States, the report states.

The report found that in New Mexico, an average driver with an excellent driving record as well as excellent credit could pay, on average, $412 in annual car insurance premiums. But the average New Mexico driver with an excellent driving record but poor credit could pay $733 annually in premiums, according to the report.

The report says that because car insurance companies rely on credit histories to help set driver premiums, this "disproportionately harms low-income consumers and people of color."

David Snyder, vice president for American Property Casualty Insurance Association, disagreed with the report's findings and said that when auto insurance companies began using credit scores to help determine premiums about 15 years ago it "improved availability of auto insurance" and that the industry lacked accurate risk predictors before credit scores began to be incorporated.

"We don't collect or use information on income. It's irrelevant to us and prohibited by law … We're interested in one thing: price against future claim. Our acceptance of your risk in making a future claim," he said.

Car insurance companies are largely regulated by state policy, not federal laws. And how car insurance companies set premiums is not transparent, according to DeLong. While most individuals think their car insurance rate reflects their driving record and their annual mileage, that largely held assumption is not how car insurance companies compute rates for drivers, according to the report.

A survey found that 66% of Americans are not aware that car insurance companies use social factors, including credit scores, to determine rates.

DeLong told NM Political Report that the study found that poor credit scores can have such an impact on car insurance premiums that it can account for more than a drunken driving record on a driver's premium.

"One of the most appalling things we found in many states, consumers with poor credit pay more than people with high credit and a drunken driving conviction. Someone drunken driving is far riskier to insure. Auto insurance ought to be based on your driving record," he said.

Snyder called that a "political point."

"How many people with a DWI have good driving scores? They engage in reckless behavior. We don't know where they came up with that; we don't know what their methodology was," Snyder said.

A National Consumer Law Center released a study in 2016 that found that African American and Latino communities have lower credit scores than whites and that has been true for decades.

Latinos earn 73 cents for every dollar earned by whites. The study found that communities of color have income disparities for a variety of reasons, including because of the collateral consequences of mass incarceration and education segregation. This leads Latino and African American families and communities to have less income and fewer assets to weather unexpected expenses such as a health emergency or a sudden loss of income.

Credit histories also impact a person's ability to obtain affordable credit and that drain on a person's current income due to high interest rates can make it harder for individuals to pay current bills, which in turn can lead individuals to fall further behind and perpetuate the cycle of poor credit histories, according to the NCLC study.

Another problem is that credit scores are often calculated including errors. A 2021 report from the Consumer Financial Protection Bureau found that a "substantial minority of consumers have errors on their credit reports … including errors that can meaningfully affect consumers' credit scores."

In addition, inaccurate information is often difficult to correct and consumer advocates have said that navigating that process is difficult. The Consumer Financial Protection Bureau found that individuals who disputed credit accounts were more likely to live in census tracts that are majority Black or Hispanic.

Snyder said a car insurance company's use of credit scores is not the same as a lender's use of credit scores. He said "the scores are constantly tested."

"Do they reflect the likelihood of future claim and they do," he said. "That relationship to predict risk is our sole interest in the use of credit. It's shown to be pretty accurate," he said.

In New Mexico, the New Mexico Office of the Superintendent of Insurance regulates the car insurance industry. Interim Deputy Superintendent Colin Baillio told NM Political Report that the Office of the Superintendent found the report "troubling."

"It does seem to suggest people with worse credit scores are getting dinged for that. From a social policy perspective, this could be having a disproportionate effect on lower income residents," he said.

The report found that poor credit leads to a 78% increase in premiums on car insurance for drivers licensed in New Mexico.

Baillio said that he and the superintendent, Alice Kane, were surprised by the report's findings.

"For the superintendent and I, this is the first opportunity to read this report. The superintendent is new to the position. This is our first opportunity to really look at this issue and try to better understand it," Baillio said.

But, he said it was too soon to discuss possible policy changes to rectify any potential racial inequities.

"We need to gather data from our insurers, analyze the data and look for policy solutions," Baillio said.

DeLong said one reason car insurance companies consider credit information is because it becomes a proxy for income and insurance companies are interested in identifying wealthy consumers because they are more likely to pay for bundled insurance.

DeLong said he has heard an insurance executive speak publicly about the industry's interest in attracting individuals of means because they are more likely to bundle their car insurance with their homeowner's insurance and other forms of insurance.

Snyder said "there's lots of different ways to bundle as a homeowner or as a renter" and that bundling insurance "is available to anyone."

"It's a way to save a few dollars on premiums," he said.

Some states have banned car insurance companies from relying on credit scores to determine premiums. Those states are California, Massachusetts and Hawaii.

Other states have made recent efforts to regulate the use of credit scores. The state of New Jersey considered banning credit history, as well as education, occupation, marital status and homeownership in the 2020-2021 legislature, but the bill failed.

DeLong said that when car insurance companies first began to use credit scores to help compute risk, regulators didn't realize the potential problems CFA found in its study.