A View From The Press Box

Readers Split On Ethics Of Using Credit Scores

BY PETER R. KENSICKI

The most recent “Question of Ethics” posed to NU readers was as follows: “Is it ethical to force an unpopular rating factor such as credit scores onto the consuming public, particularly if critics contend the accuracy of the information used—as well as the disparate impact it might have on low-income or minority groups—is in question?”

• 14% say it is ethical.

• 10% believe it is unethical.

• 10% believe it has nothing to do with ethics.

• 66% expressed no ethical opinions, but were split as to whether credit scoring should be used for rating.

As you can see by the numbers above, there is a wide divergence of opinion within the industry when it comes to the ethics of using credit scores in underwriting coverage and setting prices--although two-thirds had no firm ethical stance on the controversy and were split on whether the tool should be used by carriers.

As to a secondary question of the ethical demands on agents and insurers in explaining the use of credit rating criteria, uniformly those responding believe attempts at explanations to date have been poor.

The low number of people expressing an absolute ethical verdict is not surprising. One respondent wrote: “Here we go again with ‘moral obligations’ that are social issues and not insurance issues.”

“Insurance pricing is about legal discrimination based on characteristics that predict loss levels,” this reader added. “Those groups that generate greater losses pay more. ‘Popularity’ and unsubstantiated ‘contentions of accuracy’ are not at issue.”

This reader went on to argue that “insurers must prove to regulators that rating factors are predictive. All rating factors have a ‘disparate impact’ on some people. Accuracy of underlying data and application of that data to the rate structure should be the only issue.”

Others not expressing an ethical opinion generally had anecdotal evidence about the higher rates they had to pay because they had low credit scores.

A former underwriter noted that the credit score is not related to the ability to drive, and should therefore not be a factor in insuring a home or a car. “Inability to pay premiums is a business risk the insurer accepts,” according to the underwriter.

An agent suggested that those who “eat Oscar Mayer wieners may have more losses than those that eat another brand. Should that become a rating factor?”
He conceded that credit scores could be valid, but objected to the lack of recourse in correcting inaccurate credit data. “Try to prove credit history is wrong and getting it corrected is next to impossible.”

Another agent said: “Combine credit scoring with identity theft and the insured gets a double whammy. This is just a ‘poor tax.’ Underwriters need to seek the reasons for the low score and accept the applicant’s explanation.”

Still another agent wrote: “Since all insurers do not use it, I am skeptical of the approach. Mistakes are made and hard to correct.” A story of a client with a credit mix-up followed--many responses were similar.

As a final example, an agent said he had no debt and a “very good income,” yet had a low credit score because of the “large amount of credit available” to him. “The insurance business used credit scores to gouge customers—I hope it bites them!”

A journalist contributed an interesting response on many levels: “An actuarial relationship of credit score to risk does not mean insurers have the right to use it. What would be next? Criminal background? I’ll bet we can show a risk relationship there, too. Claims history should be the only factor.”

Those expressing no ethical opinion but accepting credit scoring as a rating practice answered many of the criticisms.

For example, a commercial lines underwriter wrote: “Some argue credit scores have nothing to do with driving ability. So what? We are trying to predict future claims, and many types of claims are unrelated to driving ability such as, Comprehensive Physical Damage, Personal Injury Protection, Uninsured and Underinsured Motorists, and towing. Credit scores are useful, along with all other rating criteria.”

A statistician added: “The literature supports a correlation of credit scores with claims. It is useful for underwriting if it adds value to predictive abilities.”

A management consultant wrote: “Grouping people with characteristics associated with lower losses is common…Data mining and advance analytics takes the business past just information provided on the application. These same techniques allow consumers to quickly compare premiums among companies to obtain the lowest rate.”

The consultant concluded that “credit scores help increase predictability. The method is sound and any inaccuracies are as significant as when underwriters are provided information by the applicant.”

A strategic adviser noted insurers are legally allowed to discriminate to target market and gain a competitive advantage. Ethics depend on the underlying metric.
If data and information systems are poor, credit scoring should not be used to rationalize inadequate underwriting, the adviser argued: “The issue can be settled. Produce the data and let it be judged.”

Another anonymous respondent agreed: “Rating variables are free-market choices subject to rules and regulations. Insurers are free not to use it. Those who did not use it were quickly hit with adverse selection and higher claims costs.”

An agent added that “credit scoring should be allowed, but not as a primary tool. We also need to rate on other relevant items such as loss history, driving record and condition of the property. We also need to be sensitive to reasons for low scores, such as loss of a job, unexpected medical bills or other temporary credit conditions.”

This agent noted, however, that “a University of Texas study did show that those with poor credit scores were more likely not to pay their premiums and more likely to file claims.”

An Illinois agent wrote that “contrary to what you may have heard, low scores are not relegated to low-income or minority groups. We have had seven-figure-income clients with low scores. It’s not popular to tell a client they will have to pay a higher premium.” However, he added, “that does not make the criteria wrong.”

A government relations attorney responded: “Credit scoring is not forced on anyone. Not all companies use it. Consumers can always shop their insurance. However, credit is an excellent indicator of discipline and responsibility that translates into road responsibility and attitude on protecting one’s own property. It also requires that people focus on their credit usage.”

A catastrophe adjuster weighed in: “Credit scoring is as ethical as using it to determine the interest rate on a loan. Why do some think it is better to raise everyone’s rates a little bit to cover a ‘politically correct’ assumption?”

The few who did say use of credit scores were unethical were emphatic. One anonymous respondent who claimed a clean driving record but admitted to occasionally paying bills late, called the use of credit scores by insurers “terribly unethical. The ability to juggle finances has no impact on driving skills. Driving record should control [the underwriter’s determination].”

Another agent wrote: “No, it is not ethical. I have a good, but not excellent, credit score because I am starting a new agency. I am not a poor financial steward, nor have I made poor lifestyle choices. Others have average or low scores because they do not use credit. Where’s the logic?”

On the question of ethical demands on agents and insurers in explaining the use of credit scores as a rating criterion, almost all who responded agreed the demands were high. The former underwriter succinctly explained the problem: “It is hard to explain to insureds and agents.”

Another agent made an excellent point—noting that the difficulty of explaining credit scoring to an insured increases if the insured has a good loss history.

Another agent was critical of the efforts at providing explanations: “We have had poor attempts to explain the whole issue. Those who oppose credit scoring do not explain, or misrepresent the validity of the method. Insurers that rolled out the use of credit scoring with just a letter or no explanation got a ‘perfect storm’ of public discontent.”

Only one respondent offered a solution: “Insurance is just a mechanism where the many pool funds to pay losses of the few. Over time, insureds demanded that rates be sensitive to their loss potential. That’s why we have so many rating considerations. It is easy to explain.”

He went on to suggest a potential boilerplate explanation: “‘As a group, individuals with low credit scores have greater claims frequency and severity—just as youthful drivers do. To be equitable to all, any group with a greater loss potential pays relatively more than a group with a lower loss potential. Additionally, credit scores are only one criterion--along with age, sex, marital status, driving record, residence, type of vehicle and so forth. Grow older and your rates will drop. Move to the country and your rates will drop. Adjust your credit score and your rates will drop.”

A few saw no ethical issues at all. The Illinois agent noted: “It may not be popular, but it’s not an ethical issue.” Another respondent wrote: “It’s unethical to burden the rest of society with the cost to support those who have a custom of being maintained.”

The management consultant commented: “This has nothing to do with ethics. It has to do with a fair way to measure the probability of loss. Opposition is pure social engineering. Why not just say, ‘I don’t like it,’ rather than attempt to make it an ethical issue?”

An agent, after noting all rating criteria have a disparate impact, said: “Perhaps we should just have a flat rate for everyone.” Another agent, who believed use of credit scores are unethical, added: “On balance, we do not always get the truth from insureds about annual mileage, usage, drivers and so forth. Ethics do not apply just to insurers.”

In summary, few saw the use of credit scores as an ethical issue. Those who did believe its use is unethical appeared to have been affected by personal situations that, in their belief, cause rates to be higher.

Those who believe credit scoring is ethical rely on the custom of the insurance business to attempt to find groups of similar individuals with predictable loss characteristics and then charge that group accordingly.

The majority responding were split between “it’s okay to use” and “I don’t like its use,” without expressing ethical opinions.

Most responding to the ethical demands for explanations agreed the industry needs to do a better job in accurately telling agents and insureds why credit scoring is used and its statistical justification.

The only obvious conclusion is that this debate is far from settled--ethically or politically! Feel free to weigh in further with your views on this blog! And thanks for responding!