Auto and homeowners insurance companies are among the businesses that are using credit scores to help decide if you’d be a good risk for insurance. A higher credit score means you are likely less of a risk, and in turn, means you will be more likely to pay less for insurance.
What is credit scoring?
Your credit score is calculated using information about you and your credit experiences, like your bill-paying history, the number and type of accounts you have, whether you pay your bills by the date they’re due, collection actions, outstanding debt, and the age of your accounts, is collected from your credit report. Insurance companies use credit report information, along with other factors, to help predict your likelihood of filing an insurance claim and the amount of the claim. They may consider these factors when they decide whether to grant you insurance and the amount of the premium they charge. The credit scores insurance companies use sometimes are called “insurance scores” or “credit-based insurance scores.” Some insurance companies rely more heavily on insurance scores when calculating their rates than others. For example, one insurance company might use vehicle type and address as the primary factors in determining your premium, while another company might rely primarily on your credit score. Under the Equal Credit Opportunity Act (ECOA), a creditor’s scoring system may not use certain characteristics — for example, race, sex, marital status, national origin, or religion — as factors. The law allows creditors to use age in properly designed scoring systems. But any credit scoring system that includes age must give equal treatment to elderly applicants.
What can I do to improve my credit score?
Credit scoring systems are complex and vary amonginsurance companies and for different types of credit or insurance. If one factor changes, your score may change — but improvement generally depends on how that factor relates to others the system considers. Only the insurance company using the scoring knows what might improve your score under the particular model they use to evaluate your application.
Nevertheless, scoring models usually consider the following types of information in your credit report to help compute your credit score:
- Have you paid your bills on time? You can count on payment history to be a significant factor. If your credit report indicates that you have paid bills late, had an account referred to collections, or declared bankruptcy, it is likely to affect your score negatively.
- Are you maxed out? Many scoring systems evaluate the amount of debt you have compared to your credit limits. If the amount you owe is close to your credit limit, it’s likely to have a negative effect on your score.
- How long have you had credit? Generally, scoring systems consider the length of your credit track record. An insufficient credit history may affect your score negatively, but factors like timely payments and low balances can offset that.
- Have you applied for new credit lately? Many scoring systems consider whether you have applied for credit recently by looking at “inquiries” on your credit report. If you have applied for too many new accounts recently, it could have a negative effect on your score. Every inquiry isn’t counted: for example, inquiries by creditors who are monitoring your account or looking at credit reports to make “prescreened” credit offers are not considered liabilities.
- How many credit accounts do you have and what kinds of accounts are they? Although it is generally considered a plus to have established credit accounts, too many credit card accounts may have a negative effect on your score. In addition, many scoring systems consider the type of credit accounts you have. For example, under some scoring models, loans from finance companies may have a negative effect on your credit score.
As stated earlier, scoring models may be based on more than the information in your credit report. Improving your score significantly is likely to take some time, but it can be done. To improve your credit score under most systems, focus on paying your bills in a timely way, paying down any outstanding balances, and staying away from new debt.
Source: Federal Trade Commission