Restricted access: a proposed model law would limit insurers' use of claims databases as underwriting tools, but some agents say that's OK.

Key Points

* Insurance legislators plan hearings this month on a proposed model law that would restrict insurers' use of automated claims databases as underwriting tools.

* The concern is that the use of loss-history databases for homeowners and automobile policies can lead to adverse underwriting decisions based on an insured's inquiry about coverage.

* The situation resembles the controversy over credit-based insurance scoring.

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The National Conference of Insurance Legislators plans hearings this month on a proposed model law that would restrict insurers' use of automated claims databases as underwriting tools. The concern is that the use of two primary loss-history databases, the Comprehensive Loss Underwriting Exchange, or CLUE, for homeowners policies and the Automobile-Property Loss Underwriting system, or A-PLUS, for property and automobile policies can lead to adverse underwriting decisions based on an insured's mere inquiry about possible coverage, or on losses suffered by a former property owner due to his or her negligence. NCOIL's investigation into the use of claims history reports focuses on homeowners and residential property insurance and not auto insurance.

This is deja vu all over again, say insurance insiders who recall the controversy just a few years ago over credit-based insurance scoring--insurers' use of credit information to help set premiums and select risks. Credit-based insurance scoring spawned restrictive legislation or regulation in dozens of states where consumer advocates attacked the practice as discriminatory. Many agents also were vocal in their opposition to it, saying insurers too often applied this tool in an inflexible manner.

"It's very ironic that the same arc that we saw with regard to credit history seems to be playing out once again with claims history reports," said Wes Bissett, senior vice president of government affairs and state relations for the Independent Insurance Agents & Brokers of America Inc., which helped develop the language of the NCOIL law.

By June 2004, some 20 states and the District of Columbia had introduced bills or had insurance departments issue bulletins or regulations pertaining to the use of loss-history reports. These reports include claim information reported by participating insurers. About 90% of U.S. insurers participate by providing claim information to database providers, according to Property Casualty Insurers Association of America. The reports include prior losses reported by the applicant or, in the case of property, reported on the insured dwelling address. The release and use of the database information falls under the provisions of the federal Fair Credit Reporting Act.

The NCOIL measure would codify a five-year limit on information that may be used from claims databases, require that claims and loss-inquiry information not be the sole factor in refusing to issue or non-renew a policy, and that a single claim arising from a natural catastrophe or "Act of God" could not justify taking action unless the insurer could show that reasonable actions were not taken, Bissett said.

One issue with claims-history reports hinges on the fact that non-claims are often reported in their data. "In some cases, a mere inquiry that you make to your insurer may find its way onto a claims history report," Bissett said. One example: if a tree falls on the roof of a policyholder's house and causes $600 in damage and the insured learns from the carrier that he has a $500 deductible, the policyholder may decide to pay for the repairs without making a claim so as to avoid a premium hike.

"Under many contracts, a client is obligated to report any sort of incident that occurs," Bissett said. "So even if they are not intending to file a claim per se, that could find its way onto a claims history report."

This can create a chilling effect, with insureds hesitant to use their policies and, even more troubling, hesitant to call their agents or companies when they may need some expertise and guidance, he said. Sometimes, agents also can find themselves in the middle of some tricky situations as a result of some carriers' over-reliance on claims history reports, Bissett said.

Credit Scoring 

Back in 2002, Bissett called insurance scoring a valuable tool but also one that had frustrated agents with the "weird, counterintuitive anomalies" that arose because of the over emphasis of credit. Insurers were using credit information in completely different, sometimes unbalanced, ways, he said.

"To a large extent, things are not as bad" on the credit-scoring front today, he said. Improvement has come about because of significant legislation on the state level that addressed insurers' use of credit information. "That took a lot of the rough edges off of some company practices," Bissett said. "In addition, carriers have begun using credit in more pragmatic ways. You still have some issues and complaints, but the level and number of criticisms of credit information have lessened in the last two to three years."

David Bauer, president of Capital Bauer Insurance, Albany, N.Y., and chair of the Independent Insurance Agents & Brokers of New York, said customers generally accept the role that insurance scoring plays in the underwriting process. "Now, it's not seen as an intrusion as it was 18 or 24 months ago, because it's become standard practice," be said. "At our agency, we embrace both CLUE and credit reporting as additional underwriting tools. They simplify the underwriting process and make it more objective."

Bauer and his agency colleagues tell customers upfront that their insurance score will be made up of credit scoring, as well as their motor vehicle record and losses, and will be modeled on a number of different variables. "We tell them that if they know that they have a credit issue, then that is going to have a negative impact on their insurance," he said.

Bauer thinks that insurance scoring will continue to be refined as predictive modeling develops. "The components may change or the weighting of the components may change, but the basic model works very well and will continue to serve the insurance carriers very well," he said.

He also thinks scoring will serve the consumer well because the old model was flawed. "Just because you have a clean driving record and you're age so-and-so, your rates shouldn't be the same as somebody who pays their bills on time and takes care of their property and hasn't had a loss in 17 years," he said.

New Jersey Experience

In New Jersey, insurance scoring is a brand new practice that was implemented in summer 2004 for personal automobile. "For the most part, we have not seen major disruption or concern," said Jeanne Heisler, an independent agent with Ronan Agency, Brick, N.J., and the government affairs representative of the Independent Insurance Agents & Brokers of New Jersey. "Not every company is using it, but the ones that are have gone into great detail with their agents to explain the entire process. They've also informed their insureds quite well. When New Jersey implemented it, companies were required to provide substantial information to the consumers. So that has been helpful."

Each company has to set up a phone number that consumers can call if they question their score or if they have a life circumstance--such as a death in the family or a major crisis--that is the reason for the lower score, she said.

"So far, consumers have been understanding of it," Heisler said. "But again, because not every company is using this, if the consumer is really unhappy, as independent agents we will quote them with our other companies that are not using insurance scoring. So there are options available for the consumer." In her experience, however, very few people's insurance scores so far have fallen below the average score.

For the past three years, New Jersey's Department of Banking and Insurance has put a major emphasis on educating consumers in financial matters--not just insurance scoring, but fraud identity, banking credit scores, and maintaining a good credit rating to secure the best interest rates on loans. Heisler thinks this effort will help insurance scoring work in New Jersey.

"One of the benefits is that all of the companies have now improved access to their insurance scoring reports," she said. "They're immediate--we get them either through company Web sites, ChoicePoint or another provider." CLUE is a product of ChoicePoint Asset Co. and A-PLUS is a product of Insurance Services Office.

Heisler also favors the use of automated claims databases because they can resolve problems of inaccuracy and even fraud. "A consumer forgets that they did, in fact, have an accident in the last three years," she said. "In their mind, they were thinking it was five or six years ago."

New Jersey law prohibits insurers from holding an inquiry against an insured or an applicant, Heisler said. When consumers do make informational calls, agents note that on the application. "We haven't had any issues with this," she said. "Some companies will look at it, but they don't consider it a claim. It is important to have that database in order to verify the condition of the house or car."

When homes are changing hands, insurers are interested in the type of claims that the previous owner may have made. If, for example, the home has had two wind damage claims for the roof, the insurer will want to know from the new applicant if the roof has been replaced. If not, the buyer will be asked if he or she intends to replace the roof because "obviously, there are issues there," Heisler said.

Heisler's only reservation with NCOIL's proposed model law would be if it restricted agents from obtaining the data that the insurance company is privy to, she said. "Then we can't help the consumer, and that would be a concern, because right now we get that report as part of the initial upfront underwriting that we do," Heisler said. Agents will go through these reports with customers, zeroing in on past claims to make sure they know the details, she said.

In auto insurance, claims databases can pick up the existence of undisclosed drivers in a household. "This gives us the opportunity to sit with the insured and make sure those additional operators are either on our policy application or they have coverage elsewhere," Heisler said.

The Downside 

Many of the same criticisms of insurance scoring are now being leveled regarding the use of automated claims databases, Bissett said. "Almost every one of those criticisms can now be attributed to company use of claims history reports--that they are used in some odd ways and are too often overutilized," he said. "We recognize they're a valuable, important tool, but their use by some carriers has caused some concern among consumers out there."

For example, many home buyers can be penalized for the actions or negligence of a previous homeowner, Bissett said. There may have been a claim that doesn't speak to the nature of the home but does speak to the lack of care on the former owner's part. For instance, he or she may have had a dog that bit a neighborhood child, and because of that claim, the new owner who does not have a dog may be unable to find insurance or be charged excessive rates, he said.

"We also hear examples of how coverage will be bound and the buyer thinks they've got an insurance policy," Bissett said. "Then sometime after the closing, the buyer is told during the free-look period that the policy is going to be cancelled because the insurer is only now getting around to looking at the claims history report."

So policymakers, both legislative and regulatory, are beginning to take a serious look at this issue, he said. "It'll be interesting to see how it plays out--whether the industry will be willing to accept some reasonable legislation or whether they will fight it tooth and nail." In the case of credit scoring, many insurer interests initially battled against any limitation or restriction, but ultimately came around and were willing to support some reasonable, more pragmatic provisions, Bissett noted.