For a very long time, the way to calculate auto insurance has been a mystery to consumers. The majority of policyholders have no idea how to estimate their car insurance rates and what goes into their actual premium. Additionally, most policyholders actually have no idea of what they’re paying for either. There are some consumers that even believe that the way insurance companies calculate rates is kept under lockdown so that companies can continue to charge whatever they want.
Coverage options determine rates, but what else goes into it? Image: A. Steinmetz
Will consumers ever be able to calculate their premium and are old methods becoming extinct?
In the last few years though, insurance companies have been highly persecuted by consumer advocates and even some legislative acts about how premiums are really calculated. In order to help clear up any misconceptions of how rates are calculated, and in order to prove that there really is a way companies calculate premiums, insurers have been explaining to consumers how they actually arrive at rates.
Although the way auto insurance is calculated may vary company to company, most companies use about the same information to calculate a customer’s auto insurance premium. The way premiums are calculated and what information is used may vary greatly depending on whether the person is getting private auto insurance or business auto insurance, although some factors do remain the same, such as what vehicle is being insured.
What Information Is Used In Calculating Premium?
Below you will find the main ingredients of any premium. However, we will not teach you advanced stochastic modelling here and turn you into a car insurance estimator of flesh and blood, but you still will get the big picture. Some of the main factors that are used in calculating premium remain about the same no matter what insurance company is calculating the premium. So, here are some of the regular pieces of information that are taken into consideration:
Age
It’s no secret that age is a huge factor in calculating premium, and parents have certainly always made sure that their new 16 year old driver is aware of how much insurance will cost them once the 16 year old is added to a policy. Additionally, young drivers who get their own policies quickly discover that age is a large factor in premium, as even young drivers find that no matter what their driving record, they’re still considered a high risk because of the statistics of young drivers. On average, drivers under the age of 25 usually have to pay more for auto insurance since statistics shows that drivers under this age are more likely to have accidents, violations, and claims. Every state and insurance company has different laws and rules as to whom they consider a youthful driver, but the fact remains the same: if you’re under the age of 30, you can look for higher rates, especially if you’re not married and have a less than perfect driving record.
Vehicle
For a long time many people thought the only factor in their insurance premium was the vehicle they drove and how many accidents and violations they’ve had. In fact, the vehicle on the policy is only one of the factors, but it does remain a large one. For example, if you drive an ‘economical’ car that is in the mid-price range, then you’d pay much less of a premium than a high end car like a BMW, solely because it’s more expensive to repair or replace a higher end vehicle than it would be to do so on the economical car, and additionally, the odds that the economical car would be considered a total loss is much less of a risk than if a high end car is in a accident.
Additionally, vehicles that are found on a massive scale, such as Hondas, typically have cheaper premiums because since there are so many parts in existence, it’s extremely cheap to replace or repair a Honda since parts are plentiful.
There is a bit of debate about what features of the car are taken into consideration as well; some companies state that they do look at the color of a car for example, arguing things like ‘red cars get more speeding tickets’ or that ‘yellow cars have less accidents because they can be seen in bad weather.’ While that is hard to accurately say, it’s probably a good idea to go with whatever vehicle seems to present less of an issue if you’re looking to keep premium low, especially if you have other factors working against you, like a poor driving record or being young.
Credit Score
As much as people argue that credit and insurance don’t have anything to do with each other, statistics show otherwise. Insurance companies have found that those with low credit ratings make more claims on their insurance policies than those with higher scores, and of course insurers have also found that those with higher scores are also more likely to become a long term customer, meaning that the insurance company is going to make their money back if they ever do have to pay out on a claim, whereas if a person makes a large claim on their policy and then also doesn’t stay with the company, the insurance company never has the chance to make any of their money back, resulting in a financial loss. Therefore, companies do usually use credit scores as a factor in calculating insurance premium, especially on policies such as property policies, where the risks and costs of those risks are significantly higher.
Location of Residence
This too varies by companies: but many people have found that if they reside in a highly populated area, they end up paying more in insurance premium due to factors like higher crime rates and also the fact that the chances of an accident are greatly increased with more drivers on the road. This is also where type of vehicle can come into play: for instance, in New York, if you try to insure a Honda, then you’d be looking at a very high premium compared to insuring a Honda elsewhere or trying to insure a similar car in New York since Hondas are the most stolen car in the state of New York. These kinds of statistics have a huge factor on premium, and are demonstrative of how the
different factors work together to determine premium. On the same token, if you live in a rural area, you may also face a higher premium because you’re not used to dealing with a lot of traffic and have a slower reaction time, leading to more accidents. Others say that living in a rural area would keep your rate lower because you’re not presenting as high
of a risk due to less traffic and crime rates. This is a good example of how the same factor can be viewed differently depending on the company and area you reside in, which is why it’s a good idea to ask the company directly.
Driving Record
Obviously this is a huge factor when it comes to calculating premium. If you’ve got no proof of being a good driver because you have proof of being a bad driver due to a bad driving record, you don’t have a very good chance of getting an affordable premium. Insurance companies will only assume that you’re going to continue down the same path, and that’s a high risk for them and the possibility of paying out a lot of money. Additionally, some companies have discovered that drivers who have a bad driving record are more likely to be short term customers.
Insurance Score
What many companies now do is calculate premium according to an insurance score, which is much like a credit score, except that it takes all of the aforementioned factors and then are calculated into one complete score. Most insurance companies use insurance scores as a way to rate a policy, and most insurance agents never actually see things like your credit score which are factored in, nor would knowing your insurance score really be helpful to you, as the number wouldn’t make much sense and isn’t similar to the credit scores consumers see.
The New Possibilities Of Premium Calculations
Consumers have been becoming more and more concerned about the methods by which insurance companies calculate premiums. Therefore, many consumers are quickly becoming interested in a new way that some insurers are now using: Pay As You Drive insurance. This type of insurance coverage looks at how often you drive and your driving habits instead of your past driving record, credit score, or insurance score and then calculates your premium based on this. This gives consumers a bit more control over their insurance bill, and makes it a bit easier for drivers to calculate themselves what their insurance bill will be.
However, some people don’t like the fact that their car basically becomes a ‘tracking device.’ Additionally, although your past driving record isn’t largely taken into consideration, one’s current driving record may end up becoming an expensive problem. Therefore, consumers have to figure out whether they want to risk their premium being calculated by their ‘future driving record’ versus a premium derived from their past driving record.
Regardless of what a consumer chooses, there are several different variables that come into play when premiums are calculated, although the biggest variables are really the drivers and the insurance companies themselves. Although asking your agent directly what methods they use for calculating premium, the easier route to take may just be shopping around with different insurers for the best rates. You might also consider to just check it online and get instant quotes for easy comparisons.
Image: A Steinmetz
