Does Your Credit Score Affect Your Car Insurance Rate?

The bottom line: Usually, yes. Don't worry; we'll spell it all out for you.

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You know you need good credit to take out a loan, a mortgage, or your friend with expensive taste. But do you understand how exactly your credit score affects your car insurance rates? Neither did we. So we did some digging, and the answers might surprise you. But first things first—let’s get a few definitions out of the way.

What exactly is a credit score?

A credit score is a three-digit number somewhere between 500 and 900 that’s a marker of your financial fitness. Institutions and companies use this number to determine how likely you are to repay your debts. It’s based on your past credit history, among other things.

New York’s Department of Consumer Affairs explains: “A good credit score shows that you have a high probability of repaying loans on time. Therefore, a good credit score will help you take out loans more easily and even get better interest rates.”

When creditors take a gander at your credit score, they’re assessing whether you’re a low- or high-risk borrower. “A low-risk borrower is someone who most likely would repay their loans, while a high-risk borrower is someone who most likely will be unable to repay their loans on time.”

But what does credit have to do with car insurance?

Plastic, plastic, plastic.

Here’s where things get a bit stickier. Turns out, for the past twenty years or so, car insurance companies have been using credit scores to determine premium rates (aka how much money will be coming out of your pocket each month.) So what on earth do the two have to do with one another? There’s a statistical correlation between your credit score and how likely you are to file a claim, and insurers use this correlation as the reason for the practice of raising rates for drivers with bad credit.

A 2003 study done right in The Zebra‘s home base of Austin, Texas, at the nonpartisan Bureau of Business Research at UT’s McCombs School of Business, confirmed this correlation. Study author Bruce Kellison explains that there is a relationship between how much a consumer costs an insurance company (aka incurred losses) and that customer’s credit score. Kellison and his colleagues examined more than 175,000 separate policies, and found that the average loss per policy, across the entire dataset, was $695. But for those policies in the lowest 10 percent of credit scores, the average shot up to $918.

Here’s that data presented visually, for those of you so inclined:

The numbers don't lie: customers with poor credit cost insurance companies more each year.
The numbers don’t lie: customers with poor credit cost insurance companies more each year.

There’s an interesting subpoint to this practice: Insurance companies often don’t use the FICO credit scores available through Equifax, Experian, or TransUnion. Instead, they have the capabilities to create their own versions of these scores. Kellison spells it out in his study: “Individual insurance companies can (and do) use individual credit histories to create their own models and credit scores. If an individual insurance company can create a “better” (more predictive) credit score model, the relationship between credit scoring and losses will be even stronger than that found in this study.” Crazy, huh?

Related: Which car insurance companies do not use credit as a rating factor?

But is this fair?

Lady Justice is not sure she approves.
Lady Justice is not sure she approves.

Now just because this is common practice doesn’t mean people think it’s right. In fact, there are three states where the practice has been banned all together: Hawaii, Massachusetts, and California. On a gut level, it certainly doesn’t sound particularly fair, at least to this writer. Shouldn’t your driving record be the biggest predictor of, well, your driving record?

Consumer groups, including the Consumers Union, have come out in opposition to the practice. Check out this particularly cranky bit from their report:

Consumer Reports sought and obtained scoring models filed with regulators in Florida, Michigan, and Texas used by 9 of the 10 largest U.S. auto insurers. CR found that there are no standards. Each company uses different models and weighs different credit-report information. Some big companies find scoring useful only for new customers, not renewals, while others may use it for both. Moreover, CR notes that the credit data from which the scores are derived have a reputation for being inaccurate and out of date.

Advocates from Consumers Union (which is the publisher of Consumer Reports) have tried to urge legislators and regulators in several states to ban the use of credit scoring in auto (and home insurance, where it also happens.) Insurers, perhaps not surprisingly, have fought back.

Kellison’s own study addressed this opposition. The study notes, “A common criticism of credit scoring and its use in underwriting decisions is that it may discriminate against low-income and/or minority applicants, and that its use, in effect, amounts to “red lining.””

For 20 years, car insurance companies have used credit scores to determine car insurance rates.

(If you’re not familiar with redlining, good old Wikipedia defines it as the “practice of denying, or charging more for, services such as banking, insurance, access to health care, or even supermarkets, or denying jobs to residents in particular, often racially determined, areas.”)

Indeed, in a 2007 FTC study, “The FTC cited other studies that found tying insurance rates to credit scores tends to discriminates against low income and minority consumers because of the racial and economic disparities inherent in scoring.”

No matter your opinion on the issue, it does affect you, so the best steps you can take involve keeping your credit as squeaky clean as possible. This means:

  • Tracking your credit report—consider doing so for free with CreditKarma, an innovative consumer finance and tech company.
  • Paying what you owe
  • Not skipping any payments
  • Paying on time
  • Looking into any possible errors on your credit report

So what are your thoughts? Is this practice fair, or shady?

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  • M. E. Derry

    Hello America:

    Let be frank, using a person’s credit score instead of their “DRIVING RECORD” is pure and simple “LEGALIZED EXTORTION”.
    They try to use the narrative of “There’s a statistical correlation between your credit score and how likely you are to file a claim, and insurers use this correlation as the reason for the practice of raising rates for drivers with bad credit” which is nothing more than a fabricated lie in an effort to justify their thievery.

    • baggman744

      Boy this really burns my ass. I’ve been with the same company for 25 years, no claims, no accidents, no tickets… none. Because of a medical issue, and being out of work, self employed, I fell behind on my credit cards. To add insult to injury, my car insurance goes up? Am I borrowing money from you? If I don’t pay, they drop me. It a purchase, not a loan. This needs to be made illegal nationally!

  • Ivy Boston

    I myself don’t have a good credit score….but I have been with insurance companies for over 12 years and each year it seems like my insurance premium was going up …I also inquired about it I also said that if I don’t have any accidents any points on my license or never filed a claim in 12 years why am I paying such a high premium no one ever told me that they were going by my credit score.. I understand there are a lot of people who do not pay their debts or their loans that they get but what do your driving record have to do with your credit score if you been with a company for over 12 or 13 years or more they should know by now that you are not trying to get over by not paying anything they consider you as risk…a person who don’t pay their bills and who are subject to putting in claims because you don’t pay back your debts they don’t know someone’s circumstances in their life things happen in people lives where at a blink of an eye it all changes.. and in one case you can have a 750 credit score and then the next case in a blink of an eye you can go down to 300 because of something that has happened in your life.. these insurance companies are ripoffs someone in high office needs to put a stop to this if you feel that my credit score is so bad then don’t give me that insurance …why even give me the insurance just say no we can’t take you at this time …and you just keep looking until you find the right Insurance Company that’s for you…. it has to stop!!!! Also people who have good credit scores sometime have the worst driving record but because of that credit score they get a lower premium than me I can’t understand it…..someone has to change the law so these insurance companies can stop making money off of people who have good driving records because of that credit score and I’m talking about all of them … someone has to put a stop to these insurance companies and stand up for us!!!!!!