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Decision time for credit scoring? Debate swirls as bills fly.

With the Florida Legislature recently confirming the Oct. 2, 2008, legislative sunset of Florida's public records exemption for credit scoring methodologies and related trade secret information, some insurers may have reason to be uneasy.

Pending bills in the current legislative session would prohibit the use of credit scores or credit reports in insurance underwriting. Companion Senate and House bills would amend the Unfair Insurance Trade Practices Act to prohibit the charging of motor vehicle insurance premiums based on credit information, the refusal to insure or continue to insure based upon an individual's credit information, and the use of credit reports or credit scores in making rate and underwriting determinations.

In addition, the Florida Office of Insurance Regulation (OIR) has proposed rules to regulate this issue. The proposed rules require insurers to utilize methodologies furnished to the OIR and to provide statistical validation proving that the use of credit scoring does not result in a disproportionate impact on certain protected classes of individuals. Any 2009 legislation could affect the disposition and substance of these proposals, which are in the rule development stage.

Can a failure to pay bills on time reliably predict the likelihood that an individual would suffer losses, file insurance claims, or be a greater insurance risk than others? If so, then does the use of a consumer's credit score for underwriting purposes result in discrimination against people of certain racial, ethnic, or income groups? During the current session, the Florida Legislature will likely consider whether insurers should be permitted to continue to use a consumer's credit score for insurance underwriting purposes. The topic is one of great controversy at both the state and federal levels, and it should spark considerable debate.

Limits Already in Place

There has been a trend to eliminate or restrict the use of credit scoring in connection with the underwriting of personal lines insurance. This trend can be traced to a growing concern that credit scoring may be a proxy for discrimination, based on studies that have shown lower credit scoring to be more prevalent among individuals of certain racial, ethnic, and income groups. Forty-four states currently have laws or regulations limiting or conditioning the use of insurance credit scoring, and four states--California, Georgia, Hawaii, and Michigan--have effectively banned the use of credit scoring with respect to all or select lines of insurance.

Florida currently has in place a statute allowing the limited and conditional use of credit scoring for the underwriting and rating of personal lines motor vehicle and residential insurance. In part, insurers must comply with the law's notice requirements to applicants or insureds, and must not base the request for credit information upon race, income, national origin, or other protected factors.

However, concern over the use of credit reports and credit scoring in insurance underwriting has been escalating. The OIR's long-standing efforts related to its proposed rules appear to be reflective of the growing nationwide trend, and they raise fundamental arguments regarding the use of this underwriting mechanism. While difficult to predict because of the dynamic nature of the legislative process, the Florida Legislature may attempt to take the next step by possibly limiting, or prohibiting altogether, the use of insurance credit scoring.

The Federal Trade Commission (FTC) studied the effects of the use of credit-based insurance scores in a benchmark report released in 2007. The study concluded that credit scoring was a valid predictor of risk as it related to automobile insurance, and was not a proxy for discrimination, though the FTC recognized the prevalence of lower credit scores among certain racial and ethnic groups. Because of sharp criticism of the study and its findings, the FTC's research is continuing, and the agency recently ordered nine national insurers to provide information regarding their use of credit scoring for homeowners' insurance.

In mid-March, Insurance Commissioner Kevin McCarty issued a statement in support of the decision by the National Association of Insurance Commissioners to hold a hearing to examine how insurance credit scoring is affecting consumers in today's economic climate, reiterating his long-held position that allowing the use of credit scores in the underwriting process unfairly discriminates against minorities and low-income individuals.

Additionally, CFO Alex Sink recently expressed opposition to using credit scores when determining Florida auto insurance rates and availability, saying she was "unimpressed" by auto insurers' explanations about their need to apply the practice.

Valid Rating Tool

General industry reaction has been that credit scoring is a reliable predictor of loss that allows insurers to more accurately and efficiently allocate and price individual risks. Insurers further counter that racial, ethnic, and income data is not normally made available to them, there is no intent to discriminate, and the use of credit scoring does not in fact discriminate. Insurers argue that the elimination of credit scoring as a factor in insurance underwriting would, in effect, subsidize higher risk insureds by increasing premiums charged to lower risk insureds.

A related issue and concern for insurers is the possibility of the release of sensitive proprietary information regarding their credit scoring models and methodologies, which may be filed with the OIR and open to public review. The sunsetting of the specific credit scoring public records exemption, along with issues related to possible discrimination and concerns about the predictive reliability of credit scoring, may have been a catalyst for the legislative proposal to ban insurance credit scoring.

There are also pending bills related to proprietary confidential business information, including trade secrets provided to a state agency, which could further affect public records exemptions for insurance credit scoring records.

Any possible action will have to be prioritized among Florida budgetary issues and a number of important insurance-related matters, including issues surrounding the Florida Hurricane Catastrophe Fund, Citizens Property Insurance Corp., workers' compensation attorneys' fees, and surplus lines matters.

All of these issues will be considered within the context of a difficult legislative environment with regard to the insurance industry and the recent announcement of State Farm Florida's plan to withdraw from the state.

The banning of insurance credit scoring would likely be regarded as the loss of a valuable tool by those insurers (most significantly, automobile) who use it in the rating process.

If prevented from considering credit scoring as a factor in their rate setting, these insurers may increase rates for some, and possibly a majority of, policyholders who benefited from high credit scores, and decrease rates for others. The resulting rate changes could have broad competitive ramifications and potentially affect the market share and policyholder profile of individual insurers.

If the issue is not decided during this session, the use of credit scoring in the insurance arena is sure to foster additional significant study, debate, and possible legislative action in the foreseeable future.

Fred E. Karlinsky is a shareholder in the law firm of Colodny, Fass, Talenfeld, Karlinsky, Abate. Richard J. Fidei is a partner in the firm. Jennifer C. Erdelyi is an associate at the firm. Karlinksy may be reached at 954-332-1749 or by e-mail at fkarlinsky@ Fidei may be reached at 954-332-1758 or by e-mail at rfidei@cftlaw. com. Erdelyi may be reached by e-mail at All three are based in Ft. Lauderdale. The firm, which also has offices in Tallahassee, specializes in insurance, legislative, regulatory and transactional law, commercial and civil litigation, governmental consulting and administrative law. Its litigation practice group handles commercial, civil rights, employment discrimination and child advocacy matters in both trial and appellate levels. More information is available at
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Title Annotation:FEATURE STORY
Author:Karlinsky, Fred E.; Fidei, Richard J.; Erdelyi, Jennifer C.
Publication:Florida Underwriter
Date:Apr 1, 2009
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