When it comes to determining your car insurance premiums, many factors are taken into consideration, such as your driving history, the type of car you drive, and even where you live. One of the most significant yet often overlooked factors that insurers use to calculate your premium is your credit score. While it may seem strange that your credit score could impact how much you pay for car insurance, it’s a practice that has become increasingly common among insurance companies.
In this article, we will explore how your credit score affects your car insurance premiums, why insurers use it, and what you can do to improve your credit score to save money on your policy.
1. Why Do Insurers Use Credit Scores?
Insurance companies have a financial incentive to assess risk and determine the likelihood of a driver filing a claim. Based on statistical data, insurers have found a strong correlation between a person’s credit score and their likelihood of being involved in an accident or filing an insurance claim.
Studies have shown that drivers with lower credit scores are more likely to file claims, whether due to accidents or damages, than those with higher credit scores. As a result, insurers consider drivers with lower credit scores to be higher-risk individuals. To offset this perceived risk, insurers tend to charge higher premiums to individuals with poor credit, as they are more likely to cost the insurer money in the future.
On the other hand, individuals with good credit scores are seen as more responsible and lower risk, and as such, insurers offer them lower premiums. This practice is known as credit-based insurance scoring, and it has become a standard industry practice in many places.
2. How Credit Scores Affect Car Insurance Premiums
Car insurance companies typically use your credit score to assess your credit-based insurance score, which is a slightly different score from your regular credit score. While a regular credit score reflects your ability to repay loans, the insurance score predicts how likely you are to file a claim. Insurers take several factors from your credit history into account, including:
- Payment history: How consistently you’ve paid bills, including credit card payments, mortgages, and loans.
- Amount of debt: The level of debt you currently owe relative to your available credit (also known as credit utilization).
- Length of credit history: How long you’ve been using credit and how recent your credit accounts are.
- Types of credit used: The mix of credit accounts you have, such as credit cards, mortgages, and auto loans.
- New credit inquiries: How often you’ve applied for new credit, which may signal financial distress or instability.
Insurers typically assign a higher premium to drivers with a lower credit-based insurance score and a lower premium to those with a higher score. For example:
- Excellent credit: Individuals with excellent credit (typically a score above 750) may see lower premiums because insurers consider them to be lower-risk drivers.
- Fair credit: Drivers with fair credit (typically a score between 650 and 700) may face higher premiums, though the increase may not be as drastic as for those with poor credit.
- Poor credit: Drivers with poor credit (typically a score below 600) often face the highest premiums because insurers consider them to be higher-risk.
The exact impact that your credit score has on your premium depends on the insurer and the state in which you live. Some states have laws that limit or prohibit insurers from using credit scores as a factor in setting premiums, so it’s important to know the regulations in your area.
3. States Where Credit Scores Are Not Used
While most states allow insurers to use credit-based insurance scores, there are some states that have enacted laws to limit or prohibit the practice. These states include:
- California
- Hawaii
- Massachusetts
- Michigan
In these states, insurance companies are not permitted to factor in your credit score when determining your car insurance premiums. Instead, insurers must rely on other factors like your driving history and vehicle type.
However, in the majority of states, insurers are legally allowed to use credit scores as part of their underwriting process, and this can have a significant impact on your rates.
4. How to Improve Your Credit Score and Lower Your Premiums
Improving your credit score is not only important for securing loans and mortgages, but it can also help you save money on car insurance. Here are some steps you can take to improve your credit score and potentially lower your insurance premiums:
1. Pay Bills on Time
Your payment history is one of the most influential factors in determining your credit score. Make sure to pay all of your bills on time, including credit card payments, loan payments, and utility bills. Late payments can significantly hurt your credit score and lead to higher car insurance premiums.
2. Reduce Credit Card Balances
Credit utilization, or the amount of credit you’re using compared to your available credit limit, is another important factor in determining your credit score. Try to keep your credit card balances below 30% of your credit limit. Reducing your debt will improve your credit score and may help you qualify for lower insurance rates.
3. Avoid Opening New Credit Accounts
Each time you apply for new credit, a hard inquiry is made on your credit report, which can temporarily lower your score. Avoid applying for new credit unless necessary, as multiple inquiries can negatively impact your score.
4. Check Your Credit Report for Errors
Regularly review your credit report for errors that could be lowering your score. If you find inaccuracies, dispute them with the credit bureaus to have them corrected. Removing incorrect information could potentially increase your credit score.
5. Consider a Secured Credit Card
If you have a poor credit score, a secured credit card can be a helpful way to start rebuilding your credit. By making regular, on-time payments, you can improve your credit score over time, which can eventually lead to lower insurance premiums.
5. How to Save Money on Car Insurance with Poor Credit
If you have poor credit, there are still ways to save on car insurance, even though your premiums may be higher than those of drivers with excellent credit. Here are some tips:
- Shop around: Different insurance companies weigh credit scores differently, so it’s important to get quotes from multiple insurers. You may find that one company offers better rates than another, even with a poor credit score.
- Increase your deductible: By choosing a higher deductible, you can reduce your monthly premiums. Just make sure you can afford the higher out-of-pocket expense if you need to file a claim.
- Look for discounts: Many insurers offer discounts for safe driving, installing anti-theft devices, or bundling policies (such as home and auto insurance). These discounts can help offset the higher premiums associated with poor credit.
- Consider usage-based insurance: Some insurers offer usage-based or pay-per-mile insurance, where your premium is based on how much you drive. This may be a good option if you drive infrequently and want to save on premiums.
Conclusion
Your credit score plays a crucial role in determining your car insurance premiums, with insurers using it as a tool to assess risk. Drivers with poor credit may face higher premiums, while those with excellent credit can benefit from lower rates. Understanding how your credit score affects your car insurance can help you make better decisions when shopping for a policy and provide motivation to improve your credit score. By maintaining good credit, you not only improve your chances of getting a better deal on car insurance but also strengthen your overall financial health.