Your credit score is more than just a measure of your financial health—it can significantly influence how much you pay for insurance. Many insurers use a credit-based insurance score to assess risk and determine your premiums. While this practice may seem unrelated to your driving habits or property upkeep, statistical data shows that credit scores can predict the likelihood of filing claims.
This guide explains the relationship between your credit score and insurance rates, how insurers use credit-based scores, and what you can do to improve your rates.
What Is a Credit-Based Insurance Score?
A credit-based insurance score (CBIS) is a numerical representation of your financial behavior, derived from your credit report. It helps insurers assess your risk as a policyholder.
Key Factors Used in CBIS:
- Payment History: Do you pay bills on time?
- Credit Utilization: How much of your available credit are you using?
- Length of Credit History: How long have you been managing credit?
- Types of Credit: Do you have a mix of credit accounts (e.g., loans, credit cards)?
- New Credit Inquiries: How often do you apply for new credit?
How CBIS Differs from a Credit Score:
- A traditional credit score is used for lending decisions (e.g., loans or credit cards).
- CBIS focuses on financial behaviors that predict insurance claims.
How Credit Scores Affect Insurance Rates
Why Do Insurers Use Credit Scores?
Research shows that individuals with lower credit scores are statistically more likely to file claims, and those claims are often more expensive. Insurers use credit scores to determine the likelihood of risk, which helps them price policies accordingly.
Where It Applies:
- Auto Insurance: Credit scores are a significant factor in determining premiums.
- Homeowners Insurance: Many insurers use credit-based scores to set rates.
- Exceptions: Some states, like California, Hawaii, and Massachusetts, restrict or prohibit the use of credit scores in insurance decisions.
Example: Impact on Auto Insurance Premiums
| Credit Tier | Annual Premium |
|---|---|
| Excellent (750+) | $1,200 |
| Good (700–749) | $1,400 |
| Fair (650–699) | $1,800 |
| Poor (<650) | $2,500 |
Why the Difference?
Lower credit scores indicate higher perceived risk, leading insurers to charge higher premiums to offset potential losses.
Pros and Cons of Using Credit Scores in Insurance
Pros
- Risk-Based Pricing: Allows insurers to tailor premiums based on financial behaviors.
- Cost Savings for Good Credit: Policyholders with excellent credit often enjoy lower rates.
Cons
- Financial Inequality: Penalizes those with poor credit due to factors like medical debt or job loss.
- Lack of Transparency: Consumers may not fully understand how their credit affects rates.
- Unrelated to Driving or Home Maintenance: Critics argue that credit scores don’t directly correlate with insured risks.
How to Improve Your Insurance Rates
1. Improve Your Credit Score
Better credit scores can lead to lower premiums. Focus on:
- Paying bills on time.
- Reducing credit card balances.
- Avoiding unnecessary credit inquiries.
2. Shop Around for Policies
Different insurers weigh credit scores differently. Compare quotes to find the best rates.
3. Bundle Policies
Combining auto and homeowners insurance with the same provider often results in discounts, mitigating the impact of credit on rates.
4. Ask About Discounts
Many insurers offer:
- Safe driver discounts.
- Loyalty discounts for long-term policyholders.
- Discounts for installing safety features or home security systems.
5. Check for Errors on Your Credit Report
Mistakes on your credit report can unnecessarily inflate premiums. Get a free credit report at AnnualCreditReport.com and dispute inaccuracies.
State Regulations on Credit-Based Insurance Scores
States That Prohibit or Limit Credit Use:
- California, Hawaii, and Massachusetts: Ban the use of credit scores in auto insurance.
- Washington: Recently implemented restrictions on credit scoring for homeowners and auto insurance.
State-Specific Laws:
If you live in a state with restrictions, ask your insurer about how they calculate premiums.
Conclusion
Your credit score plays a significant role in determining insurance premiums, especially for auto and homeowners policies. While this system can reward those with good financial habits, it may also penalize those experiencing financial difficulties.
To ensure you’re getting the best rate:
- Monitor and improve your credit score.
- Compare policies across insurers.
- Leverage discounts and policy bundling.
Understanding how your credit affects insurance rates empowers you to make informed decisions and potentially save money on your premiums.
