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For insurers, credit scoring issue takes center stage

For insurers, the debate over the use of credit information is like a nagging itch that won’t go away. Credit-based insurance scoring, as insurers call it, has been litigated, regulated and legislated in numerous states across the country for a decade.

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It is also an issue that industry watchers say isn’t about to go away any time soon. That’s because each new court ruling or study triggers a scuffle over the effect credit information has on the cost of rates and consumers’ ability to purchase insurance.

Such was the case with a recent federal appeals court opinion which requires insurers to tell consumers if their credit information negatively impacts them, or as lawyers say “creates anadverse action.”

The rub is that the 9th U.S. Circuit Court of Appeals opinion requires an adverse action notice be sent even if the credit information helps the consumer, says Robert Detlefsen, director ofpublic policy at the National Association of Mutual Insurance Companies.

The scenario Detlefsen uses is that of a student who receives an 'A' grade from a teacher. The student had the potential of receiving an 'A-plus.' So, under the court ruling, the student would be sent an adverse action notice because he didn't get the highest score possible.

Industry representatives say this means more people will receiveadverse action notices, which will place a significant burden oninsurers, especially small and medium-sized companies.

Another concern is that state regulators and legislators will be compelled to revise laws governing the use of credit-based insurance scoring to conformto the opinion in the Reynolds vs. Hartford Financial Services case,says Detlefsen.

Hartford hasn’t said whether it plans to continue the legal challenge.

Burgeoning bills

What is clear, is that the federal appeals court opinion is just one of many actions concerning credit that consumers will be hearing about in coming months. Several other legal challenges at both the stateand federal court-level are pending. Bills to restrict or ban credit-based insurance scoring have already been or are expected to beintroduced. And a study by the Federal Trade Commission should be released this year.

Congress charged the FTC with examining how insurance scoring affectsconsumers and whether it discriminates against poor and minoritypopulations.

That allegation has been one of the most contentious in the debate over the use of credit information. Insurers say race and income levels are not factors in their underwriting practice. They argue thatinformation from credit reports has proven to be a sound underwritingtechnique that enables more people to purchase insurance and receive abetter rate. And they point to a study conducted by the Texas Department of Insurance in 2004 as proof.

The study, which examined 1.2 million auto policies and 800,000 homeowners policies, found a correlation between credit scores andclaims experience. However, it also found that “Whites and Asians,as a group, tend to have better credit scores than Blacks and Hispanics.”

For its study, the FTC is collecting from insurers information on homeowners policies, and consulting with the Office of Fair Housing and Equal Opportunity. But it’s already well past the scheduledrelease date of December 2005.

“While there is a wealth of data for auto, there is not much data available--publicly at least--on the homeowners side,” explains Detlefsen, who adds that the study’s results may not be released untilthe fall of this year or later. Those findings, industry watchers say, will most likely sparklegislative or regulatory actions at the federal and state level. Not all lawmakers, however, are waiting for this study beforelaunching new legislation banning or restricting the use of credit information.

Minnesota’s Attorney General Mike Hatch has proposed a ban on credit scoring. In January, Florida added a rule that requires insurers to first prove that credit scoring does not cause a disparate impact before they can use the tool. That rule is being challenged in court by insurers. In Michigan, one of the most closely watched states, the governor has proposed a ban on credit scoring.

Industry groups such as NAMIC expect bills or regulations regarding credit scoring to materialize in as many as 40 states this year. Last year there were 30 proposals to ban credit scoring, but none passed.

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