Application For Credit

“Is credit scoring here to stay?” an audience member asked a panel of insurance company executives at the Insurance Brokers Association of Alberta (IBAA) in May 2009.

The seemingly innocent question is loaded: in many Canadian jurisdictions, it is against the law to use a person’s credit scores for the purpose of underwriting auto insurance policies. But credit scoring can also be used legally to underwrite both home and commercial insurance in some jurisdictions. Unsure about what is allowed and what isn’t, brokers and members of the public have recently gone to the press and asked regulators to clarify the extent to which credit scoring is not only legal, but used.

Arthur Hagan, deputy superintendent of insurance, kicked off the IBAA’s annual general meeting in Jasper by saying the Canadian Council of Insurance Regulators (CCIR) is undertaking a survey of 33 insurance companies to find out who is using credit scoring for underwriting property insurance. Hagan described credit scoring as “a hot issue” at the most recent CCIR meeting in Toronto.

Later at the IBAA’s AGM, Peter Blodgett, president of the Insurance Brokers Association of Ontario, called for a “total prohibition on credit as it relates to all personal lines property and casualty insurance in the province of Ontario.”

The debate thus stoked, insurance company executives on the IBAA panel suggested any “staying power” of credit scoring would depend in part on three factors:

• the transparency of its use to brokers and consumers;

• the clarity with which the use of credit as an underwriting variable is regulated; and

• whether or not the use of credit would create an unfair competitive disadvantage between insurance companies.

Several insurers on the panel pointed out that credit scoring does serve a useful purpose in underwriting. To help illustrate the point, Jean-Francois Blais, president and CEO of Axa Canada, told two stories. The first recalled his early experience as a CEO talking to brokers about what constitutes a good risk. “My first question to brokers was always the same,” Blais said. “It was: How do you define a good client? The answer I got all the time was a client that pays well. You don’t want in any of your business a client that doesn’t pay well.” In helping to determine whether or not a client “pays well,” credit scoring can be used to identify a comparatively safe financial risk.

Blais’ second story illustrated how credit scoring can be used to determine an unacceptable risk. “My other story is about the origin of the subprime,” Blais said. “What is the subprime? The subprime is nothing but lending money to a person with a poor credit score at a reasonable rate. This is why we are in this mess today. It’s lending to people who were not able to repay that money.”

Blais concluded that basically insurers are using credit scoring as a means to identify financial risk before insuring it. “But we have to be careful that we use it with the knowledge of the consumer and that there is education around this, and that there is some regulation so that there is no misuse,” he said.

Robin Spencer, president and CEO of Aviva Canada, observed that credit scoring has “underpinned so many parts of insurance for literally decades, if not centuries, particularly on the commercial lines side.” He thought it would be inappropriate for Canadian insurers to turn their backs on the technique altogether. “This is a fantastic way of being able to use one of the variables that allow us to price, hopefully, more accurately for appropriate risk,” he said. “I don’t think we should be scared by this. I think it’s an exciting development in the industry. I think it’s just an education piece, and then we need …a level playing field and clear guidelines.”

Shawn Desantis, vice president of personal insurance at RSA, said his position on credit “is that if it is something that will allow us to segment our customers better and understand the price modes better with customers, we will find a way to use it.” He said RSA doesn’t use credit on an individual basis, but does use it at a “higher” (presumably aggregated) level to gain a better understanding of its overall portfolio. “I support any underwriting techniques that would allow us to segment better, as long as there is respect for the customer,” he said.

Charles Brindamour, president and CEO of Intact Insurance Company of Canada, said the future use of credit scoring would depend on two factors. “The first is information,” he said, noting that the credit scoring debate in Canada is relatively new. “There is a big information gap [in Canada] that does not necessarily exist in other jurisdictions. In fact, in the United States, the use of credit scoring is fairly well defined.” The second issue with credit scoring, he said, is how it is used. “In other words, it’s the sloppy use of credit scoring that is causing the growth of the problems … I think if the actions taken based on a poor credit score are adverse, this is a problem with social implications. We [at Intact] don’t deny access to our product for poor credit scores.”

Many of the insurers on the panel agreed that consultation with regulators would go a long way towards resolving the transparency issue. As it stands, the public does not know enough about the extent of its use, said Diane Brickner, president and CEO of Peace Hills Insurance. “We at Peace Hills do not use credit scoring,” she said. “I have issues with credit scoring and one of them is the lack of transparency to the broker and to the client… My concern would be that you as a broker [should] know what we are doing with our credit scoring and why insureds are being [judged] by credit.”

Ken McRae, president and CEO of Wawanesa Mutual Insurance Company, said the opportunity to air publicly some of the issues around credit scoring made him “kind of happy” that it’s coming out as an issue. “It’s becoming [obvious] that it is being used more than most people thought, and we’re very supportive of this being reviewed by a number of groups — including regulatory and political forums — so that there can be clarity on whether it is on fact an acceptable political or social variable,” he said.

But even when the public is educated about why and how insurers use credit scoring, consumers still don’t want to be assessed by their insurer for credit risk, said George Cooke, president and CEO of The Dominion.

“When we ask consumers whether or not they find credit scoring acceptable for use in auto insurance and home insurance, the vast majority say, ‘No, they don’t,'” said Cooke. “When you explain to them the [argument] about segmentation and price differential, they understand, but they still tell you,’No, they don’t.’ When you then ask them why, they tell you they don’t understand the connection between a credit score and the price of an automobile product or a credit score and the price of a homeowners’ product. They do understand [the relevance of] the type of vehicle, the condition of the repair of the house, the number of [driver] convictions, the number of claims made. You get to the point where you say: ‘Okay, the public doesn’t get it. Your customers, your policyholders, don’t want this. They don’t like it.’ So I say to myself:’Do we need to use it?’ And the answer is very clear,’No, you don’t.'”

A further issue arises when some companies go ahead and use credit scoring, while others do not.

“When our competitors use it and we do not use it, are we being selected against?” asked Brickner. She said when a customer is rejected because of a particular criterion like a credit score, “that person has to go somewhere [for insurance], and so it comes to us. And if it’s not good business, how are we going to compete?…Either all should be allowed to do it, or all should not be allowed to use it.”

“[Credit scoring] is a fantastic way of being able to use one of the variables that allow us to price, hopefully, m ore accurately for appropriate risk. I don’t think we should be scared by this.”