Legislature(2001 - 2002)
03/06/2002 03:20 PM House L&C
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* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
HB 395-INSURANCE DISCRIMINATION BY CREDIT RATING CHAIR MURKOWSKI announced that the final issue before the committee would be HOUSE BILL NO. 395, "An Act prohibiting discrimination by credit rating or credit scoring in insurance rates; and providing for an effective date." Number 520 REPRESENTATIVE CRAWFORD spoke as the sponsor of HB 395, which he said is a fair approach to insurance rating. He explained that HB 395 would prohibit insurance companies in Alaska from using credit scores in either underwriting or rate setting for car or home insurance. Using the credit rating and scoring for such is arbitrary and discriminatory. Representative Crawford pointed out that the committee packet should contain a letter from AARP. Retirees are the group least likely to use credit cards and have debt. The letter from AARP points out the five factors that are primarily used for credit scoring: payment history, amount of debt, credit account history, recent credit history, and types of credit. Therefore, a person who doesn't use much credit automatically receives a lower credit score and is put in this new class of people who receive higher interest rates. Such a situation is arbitrary and unfair. Number 0540 DAVE D'AMATO, Staff to Representative Crawford, Alaska State Legislature, informed the committee that some of the issues laying behind the introduction of HB 395 involve an individual's right to privacy, the accuracy of the information compiled about an individual, and the access to that information. Mr. D'Amato pointed out that insurance regulations have a statutory mandate, AS 21.36.120, to protect consumers against unfair discrimination. However, Alaska doesn't protect its insurance consumers, even in the face of irrefutable evidence that insurance credit scoring is discriminatory. Such a situation is bad for individuals, businesses, and Alaska in general. Inevitably, the question regarding what class of people would be impacted by legislation arises. The class of people impacted by HB 395 can be broken into economic and cultural demographics that cross pollinate. Mr. D'Amato explained that the majority of Alaska's rural areas are populated by a minority ethnic group. Alaska has a large percentage of small- and medium-sized businesses and seasonal workers. Furthermore, Alaska has a one- trick-pony economy. That is, Alaska's reliance on oil exposes the average Alaskan to greater economic fluctuations. MR. D'AMATO stated that credit scoring effects those with good credit and those with bad credit. For example, buying a house or car impacts an individual's stability as a purchaser. The insurance industry would argue that one is more stable if one hasn't recently purchased a house but has lived in a house for five or ten years. Mr. D'Amato expressed the hope that by the end of his testimony he will have shown the committee that activity that one would consider normal and rational impacts one's credit rating. However, some classes of people are impacted in a disproportionate manner. The elderly is one such group. He directed attention to AARP's letter in support of HB 395. TAPE 02-31, SIDE B MR. D'AMATO informed the committee that AARP has made this issue one of its three main issues nationwide. Another class of people impacted by credit scoring are minorities, both rural and urban minorities. Although those minorities living in urban areas aren't necessarily subject to the discrimination found in rural areas, such as the lack of access to banks, they are still brought under discriminatory treatment by a process once known as red-lining. For example, the people in Mountain View pay more based on the region. Mr. D'Amato referred to the NAIC [National Association of Insurance Commissioners] winter meeting "Exhibit C", which includes a comparison of two zip codes by household income. That comparison shows that [the zip code] with the higher household income, 21210, has the lower premium [while the zip code with the lower household income, 21217, has the higher premium]. There is also a comparison of premium by population composition [the ratio of minority to white], which also has the essence of red-lining. Number 0565 MR. D'AMATO, in response to Representative Halcro, informed the committee that the annual premium for zip code 21217 is $1,357 while the premium for zip code 21210 is $972. Additionally, divorces impact one's credit in several ways. Since a divorce often results in the dividing of community property, it places people into different positions of credit worthiness. Although one individual may not have been the primary breadwinner and didn't actually control the finances, that individual has, because the individual's personal life has gone awry, been classified [as not having good credit]. Other situations that impact one's credit rating could be related to layoffs or identity theft. MR. D'AMATO summarized that credit rating can impact everyone [because it] replaces relevant performance-based criteria such as driver behavior. The old standard was that those who received tickets, had accidents, or filed false claims were those who faced higher insurance rates. There were also various actuarial examples illustrating that certain classes of people produced riskier behavior. Those examples had to have a link between [certain classes of people and risky behavior]. However, [the current rating system] doesn't exactly show how the [correlation] is made because it's [said to be] proprietary information. In place of the relevant performance-based criteria arbitrary economic considerations are inserted. He explained that [credit scoring] says that anyone with a credit condition has to be considered under the new credit scoring. Number 524 MR. D'AMATO turned to Exhibit F, which is a letter from an insurance sales person. This letter specifies that an individual with two DWIs (driving while intoxicated) and an accident within a five-and-a-half year period is still in the preferred market based on the individual's credit rating. Mr. D'Amato said, "It's my assertion to you that this is probably bad public policy." Furthermore, Mr. D'Amato charged that the [insurance industry] won't be able to provide any documents that illustrate causal links [between premiums and a person's predisposition for risky behaviors]. However, [the insurance industry] is able to provide correlative judgments if they exist. To that end, [the insurance industry] directs attention to a paper done by James E. Monaghan entitled, "The Impact of Personal Credit History on Loss Performance in Personal Lines". This paper is touted as a lesson in rate making. He referred the committee to the last paragraph of page 102 of the handout. He quoted the last paragraph as follows: "An outstanding issue that will likely remain outstanding is causality. Although arguments were put forward earlier in this paper which attempted to link financial management responsibility and future expected loss levels, such arguments are unsupported, even if reasonable, speculation." Additionally, on page 86 of this paper Mr. Monaghan says, "Explanation of these correlations, for the most part, cannot be found in the data assembled for this research. I would be remiss, however, if I did not at least attempt to set down those arguments which could be made suggesting reasonable causal links between an individual's bill paying history and expected loss experience for insured losses under a private passenger auto insurance policy." Mr. D'Amato explained that these quotes illustrate that Mr. Monaghan is going to leave out causality and correlation because those can't be proven. There is no proof [that] the discrimination [the insurance industry uses] is necessary. Although [the insurance industry] will provide charts regarding the loss that is being incurred for those with good credit versus bad credit, there is no information with regard to the formulas that [calculated the loss and its relation to a person's credit rating]. Mr. D'Amato indicated that this information isn't provided not because it's proprietary. The insurance industry won't show that [credit rating] isn't discriminatory based on income or minority status. Number 468 MR. D'AMATO informed the committee that he can prove that there are inaccuracies on credit reports, which have been reported to have a 1-70 percent variance. Therefore, the committee is being asked to rely on a formula that isn't available for review, and that formula relies on data that is 1-70 percent inaccurate. Mr. D'Amato then referred to a document entitled, "Regulators wary of rates based on third-party data". Twenty-five states are considering legislation similar to HB 395. He said that typically, the largest problem is that third-party information is inaccurate and unreliable and thus such data shouldn't be utilized to set rates. MR. D'AMATO also informed the committee that there are arbitrary variables that effect one's credit report. For example, simply asking for a credit report too often will result in that individual being a poor credit risk because [the insurance industry] wouldn't know how much extra credit has been assigned to the individual. If an individual shops around for insurance and asks for ten different quotes, then each will request a credit report. The credit scoring agencies wouldn't clearly know how many of those inquiries resulted in an extension of credit. Therefore, the credit scoring agencies aren't sure how deep in debt an individual is until there is a payment history. Furthermore, Alaska's large rural population [most often] doesn't use the larger banks that report. Number 436 MR. D'AMATO related his belief that there has been some blanket and patent discrimination. That is, people with bad credit but not bad driving histories are subsidizing bad drivers with good credit. Those who are most hurt [by credit scoring] are those on the fringe who are making normal credit decisions but have one thing impact their credit score. Mr. D'Amato alluded to the relation between credit scoring and a larger class of uninsured motorists. He said, "If credit scoring is allowed in underwriting, the effect of that is that individuals who are denied access to insurance will not get insurance." MR. D'AMATO pointed out that Hawaii has been doing [what is proposed in HB 395] since 1983. Once this was implemented in Hawaii, there was no change in premiums. Furthermore, once the insurance industry sued, the state court upheld the state's position. Although the typical argument is that implementation of this will result in a flight of insurance carriers, he indicated that the market accommodates the situation, as was the case when seatbelts were required in automobiles. MR. D'AMATO concluded by urging the committee to ask the insurance industry to show how it arrives at the correlation. He said that the insurance industry won't be able to bring forward anyone who has benefited from credit scoring. However, he said he could bring forward people who have been harmed from this program, and these people are from almost every socioeconomic class and ethnic group. Furthermore, it's factually inaccurate to suggest that anyone could have benefited from credit scoring because when the industry applied to [utilize] credit scoring in the insurance rates there was an application for a rate increase. Mr. D'Amato referred to a Phillip Morris study, Exhibit J, that he characterized as interesting. In closing, Mr. D'Amato reiterated that HB 395 simply limits the use of credit scoring in rating and underwriting. Number 385 REPRESENTATIVE MEYER related his belief that the insurance companies are like jury selection, one of the few groups that [are allowed] to discriminate. Representative Meyer said he couldn't believe that the insurance industry would rely solely on one's credit report to set their auto rates. He asked if Mr. D'Amato was saying that a credit report is only one of the many factors that determines an individual's auto rate. MR. D'AMATO said that no one can answer that question. However, the committee packet includes a recent situation in which a 26- year-old woman with a recent divorce and bankruptcy, but with no tickets, accidents, or claims was denied the opportunity to obtain credit by Allstate. In this case, the denial was based solely on the credit score. Mr. D'Amato remarked that this is an issue about subsidization. The insurance industry is only allowed to charge and profit so much. Therefore, the question is: who should be encouraged to behave in the manner they do, the individual with two DWIs or an individual who is divorced? He said he didn't know the answer and neither does anyone else. REPRESENTATIVE MEYER asked, "Isn't that up to the Director of [the Division of] Insurance to determine how they charge the rates and why they're charging the rates that they do?" MR. D'AMATO explained that the Director of the Division of Insurance is charged with ensuring that the rates that are set aren't unfairly discriminatory. How that conclusion is determined is up to the director. In communications with the director, [the division] hasn't been convinced [of the appropriateness of credit scoring]. REPRESENTATIVE MEYER remarked that maybe there is a direct correlation between an individual with a good credit rating and responsible driving habits. Perhaps, the auto [insurance] industry has such a correlation and it has been presented to the Division of Insurance. Representative Meyer didn't believe the insurance industry, which is a heavily regulated industry, could adversely discriminate against a certain group. Number 341 REPRESENTATIVE HALCRO asked if the sponsor felt that the insurance companies should be allowed to maintain any proprietary information with regard to how a premium is set. REPRESENTATIVE CRAWFORD replied yes. However, he pointed out that the Director of the Division of Insurance has told him that as long as there is no statute that prohibits the director from allowing this particular way of setting rates, then the director can't disallow it. Presently, there is no statute against [credit scoring] and thus it has been allowed. REPRESENTATIVE HALCRO expressed concern that HB 395 specifies that the insurance industry can't factor in credit scoring when they set premiums. REPRESENTATIVE CRAWFORD said that he doesn't believe that there is any causality with regard to credit scoring. For example, Representative Crawford related that all of the mortgage payments he made on September 9, 2002, reached their destination late due to the tragedy on September 11, 2002. Although he was able to get the late payment removed, he wasn't able to have that late payment removed from his credit rating. [Since that time] all of his insurance rates on his rental properties have risen by about 25 percent. He clarified that he couldn't say for sure that the aforementioned rise in insurance rates was due to credit scoring. Representative Crawford related his belief that credit scores don't have much to do with whether a person has claims on their home insurance or whether a person has a good or bad driving record. Representative Crawford said he didn't believe that credit scoring is a good policy. Number 294 REPRESENTATIVE ROKEBERG asked if [HB 395] would create a business opportunity for an insurance company that doesn't want to use [credit scoring]. MR. D'AMATO replied yes. This legislation could create a market in which the class of uninsured motorists could amount to 40-50 percent and a company could convince the legislature to mandate insurance. Then the company could enter the market and offer insurance to the uninsured motorists. Therefore, the market could correct this under such a scenario. REPRESENTATIVE ROKEBERG remarked that his point is that the market is self-correcting. He related his understanding that the states that allow [credit scoring], such as Hawaii, were grandfathered in under the Federal Fair Credit Reporting Act (FCRA), which permits credit scoring. With regard to the testimony that 25 states are looking [at proposals such as HB 395], those states are reviewing these because they're not sure that it can be done because of the supremacy clause in the U.S. Constitution. He asked if the sponsor has reviewed the possibility that federal law may have preempted this. MR. D'AMATO replied yes. Under FCRA, up until July 1, 2004, insurers can use credit information to pre-screen but not [to set] rates. However, there are no federal statutes that preempt a state's ability to set rate-making. The majority of the states reviewing this are principally considering rate-making. Number 249 MARIE DARLIN, AARP, noted that the committee should have written testimony from AARP. The AARP doesn't believe that older individuals should be forced to pay higher insurance premiums simply because they don't use credit and thus don't build up a credit rating. Ms. Darlin announced AARP's support of HB 395. REPRESENTATIVE KOTT asked if Ms. Darlin was aware of anyone within AARP that has been rejected [on the basis] of a credit rating. MS. DARLIN replied no, not personally. Number 217 JOHN GEORGE, National Association of Independent Insurers (NAII), informed the committee that NAII is a trade association of about 690 property casualty insurance companies. Since no one knows the formula that the insurance company is using, Mr. George said he didn't know how one could say that one factor is causing everyone's insurance [premium] to increase. Furthermore, all insurance companies don't use the same formula. Moreover, he didn't know how one could charge that [this formula] would have the same effect on everyone. Mr. George commented that insurance is very competitive and there are insurers who specialize in various types of insurance. MR. GEORGE recalled testimony with regard to having mandatory auto insurance, which is the case currently. He informed the committee that the insurance companies would prefer that there wasn't mandatory auto insurance because of the assigned risk plan. Through the assigned risk plan anyone has the right to purchase auto insurance, and therefore anyone who has a license and an automobile can purchase insurance. MR. GEORGE turned to the use of the term "credit score" and clarified that it's different than the credit score that the bank receives when an individual attempts to obtain a mortgage or car loan. Although the same credit agency may perform the credit score, the bank informs the agency with regard to the factors it wants to consider in their score. Mr. George said that he would prefer to call it the insurance risk score. He explained that the insurance risk score considers the same data, but different weights are placed on different aspects and this varies with the insurance company. MR. GEORGE characterized the prior testimony as an indictment of the credit system. Although Mr. George said that he has seen the information that the inaccuracies on credit reports is between 1-70 percent, he feels that credit reports are fairly accurate when one views the inaccuracies in terms of material inaccuracies. He pointed out that the federal government has established laws allowing individuals to obtain their credit report and correct it. If the corrective system doesn't work, then the federal government should tighten it up. If this is an indictment of the entire system, then every entity that uses a credit score should be indicted. However, that doesn't seem to be the case, he said. MR. GEORGE interpreted prior testimony to be an indictment of the Division of Insurance, which has approved some rates that are based on credit scoring. The division has great authority to review and examine insurance companies. As a former regulator, Mr. George noted his resentment of the indictment of the division. With regard to the Monaghan report, Mr. George clarified that it is merely a report. He directed attention to the following from page 103 of the Monaghan report, "The data reviewed in this study produced clear evidence of a strong correlation between credit history and future loss performance." An actuary doesn't review causation because it doesn't matter. "What matters is that you can come up with something that correlates very strongly with future losses. We don't care why they have the losses, we only care that they have them," he said. There is an extremely strong correlation [between credit scores and insurance risk]. Number 055 MR. GEORGE turned to the anecdotal examples that are often the most difficult to address because there is often another side of the story. He urged people with knowledge of such anecdotal stories to provide him with the names so that he could track down the person and uncover the problem. [The insurance industry] would like to fix the real problem so that this [credit scoring] information could be used in order to provide comfort that people are being charged the correct rate. Mr. George indicated that [credit scoring] is really an allocation of who is going to pay the premium not whether it will be collected. With regard to AARP's comment that [seniors] should pay less, a few years ago legislation was passed requiring insurance companies to give individuals over 55 years of age a discount. That discount isn't based on actuarial science. TAPE 02-32, SIDE A REPRESENTATIVE HALCRO asked if it would safe to say that in the insurance industry the premiums are different because the risks are different. For example, someone living in a bad neighborhood is going to pay more for insurance than someone living in a good neighborhood. He surmised that factors such as the type of car an individual drives to the crime rate where an individual lives are risks that are used to determine the premium. MR. GEORGE replied yes. He said that the key piece of missing information in the information provided by Mr. D'Amato was the amount of losses. He turned to the suggestion that a particular race has more losses merely because the individuals are of a certain race and pointed out that the credit scores are quite blind to this because credit scores don't inquire as to an individual's ethnicity, religion, or earnings. Credit scores merely inquire as to how one manages his/her finances. In many instances, those with less money receive better scores than those with a lot of money. CHAIR MURKOWSKI posed a situation in which an individual doesn't have a credit history, and asked if that individual wouldn't be able to avail themselves of any good credit discounts. MR. GEORGE said that there are certainly positives and negatives. Those that pay on time receive positive points while those who don't pay on time and are turned over to collection agencies receive negative points. However, it's not necessarily negative that one has managed his/her credit by not using it. In fact, all insurance companies can, in their own formula, make an exception to accommodate such situations. Furthermore, a company could decide to target such a group for potential clients. Number 091 REPRESENTATIVE ROKEBERG inquired as to the impact on rate structuring for property casualty since the September 11th incident. MR. GEORGE answered that the property casualty industry is most affected by the lack of reinsurance or the substantial increases in reinsurance premium. The first knee-jerk reaction by the reinsurers was that they weren't going to cover terrorism and they wanted substantial increases. Mr. George pointed out that the rates for reinsurers are unregulated. Therefore, that is a serious problem. Although Allstate probably had a greater number of auto claims in New York than it would otherwise, it probably wasn't to the extent that it would dramatically drive the rates. One of the largest impacts to the rates is that insurance companies have to invest their surplus, which they're required to have in order to pay claims. In the past insurance companies could write insurance at 125 percent loss ratio and [make their 5 percent profit], but that isn't the case now. REPRESENTATIVE ROKEBERG surmised that Mr. George is suggesting that one of the major squeezes on profitability of the industry is low interest rates and the loan bond is at less than 6 percent. Therefore, in order to increase profitability, the industry has to look at rate increases. With regard to profitability, Representative Rokeberg asked if there is a cycle in the property casualty business such that insurers drop rates in order to obtain market share and then certain entities are weeded out and ultimately rates are raised. He asked if the industry is currently in the raising rate cycle. MR. GEORGE replied that Representative Rokeberg is correct. However, he said that it's even worse. He explained that if a company enters the market and cuts its rates in half and then the company can't make it, all of the other companies in the guarantee association are assessed and pay for those losses. Mr. George characterized the insurance industry as sort of a public utility, except there is strong competition and if one of the companies goes broke the others have to pay. REPRESENTATIVE ROKEBERG recalled that Mr. D'Amato said he has irrefutable evidence that credit scoring is discriminatory. However, the statute specifies that "in rate making, the rates shall not be excessive, inadequate, or unfairly discriminatory." He related his understanding that discrimination is part of actuarial rate making; the issue is whether the discrimination is unfair. MR. GEORGE agreed. Mr. George said that there are two scenarios. One scenario would be a situation in which everyone pays the same rate. The other scenario would be a situation in which each individual's life history is reviewed in order to determine his/her rate. The current system falls in between those two scenarios. REPRESENTATIVE ROKEBERG asked, "Isn't the point of this bill to keep from harming consumers and driving rates up?" He recalled the testimony that [credit scoring] "separates" people and drives rates up for certain classes of people versus others. MR. GEORGE informed the committee that what has been found is that many companies write more insurance policies than they would have written without the credit score, the insurance risk score, because of the greater comfort it provides. The goal is to assign the appropriate rate so that one group isn't unfairly subsidizing another group. Discrimination is fully accepted in insurance rating, it just shouldn't be unfair discrimination. The most unfair situation would be one in which one group with low losses subsidizes another group with higher losses. Number 191 REPRESENTATIVE CRAWFORD turned to Mr. George's comments characterizing Representative Crawford as indicting the Director of the Division of Insurance for not doing his job. He clarified that his comments were that the director didn't change [credit scoring] because there is no law that specifies that [credit scoring] is the wrong way to set rates. The people who aren't doing their job are the legislators who haven't made this policy call, he said. [This legislation] attempts to correct the situation. REPRESENTATIVE CRAWFORD recalled when he shopped around for a mortgage company in order to receive lower rates. Shortly after deciding on a mortgage company, he decided to obtain a better credit card. However, the credit card company denied his request because he had too many inquiries on his credit rating. He asked if [credit scoring] is an appropriate criteria to set his home and auto insurance rates. MR. GEORGE began by apologizing and specifying that his comments weren't a personal indictment. He said that he believes that the director has full authority to approve or disapprove the rates if they are unfair or can't be substantiated as appropriate. In regard to Representative Crawford's particular situation, he surmised that Representative Crawford was saying that the credit card company may have unfairly used [the credit scoring] information. He noted that FCRA includes safeguards so that errors can be corrected and thus he felt it should be incumbent upon lenders and insurers to consider the corrections or explanations. MR. GEORGE turned to the unsolicited credit card offers, which do pull an individual's credit. However, he wasn't aware of anyone who used those for any insurance score because the individual didn't request those. Someone who applies for five credit cards is a different situation, he pointed out. MR. GEORGE recalled that Mr. D'Amato had said that HB 395 would eliminate using credit scores for auto and home owners [insurance]. However, it would [also] eliminate credit scores for surety bonds, fidelity coverage, et cetera. Therefore, no credit could be used to underwrite for any line of insurance, which Mr. George characterized as an unintended consequence. REPRESENTATIVE CRAWFORD remarked that the aforementioned was an unintended consequence that he would try to correct. Number 281 BOB LOHR, Director, Division of Insurance, Department of Community & Economic Development (DCED), testified via teleconference in support of appropriate restrictions with regard to the use of credit scoring by insurance companies. Furthermore, the division supports the concept behind HB 395. The question regarding whether to out right prohibit the use of credit scoring by insurance companies is a legislative policy call. Mr. Lohr explained that presently the division reviews auto and home owner insurance rates and applies AS 21.39.030, and only approves rates that aren't excessive, inadequate, or unfairly discriminatory. Credit information and credit scoring was first approved for use in Alaska about four years ago. The division required extensive documentation from the insurance company to support its use. Currently, a total of seven insurance companies have approved auto rate filings that include the use of credit scoring. Since December 2000 the division has received 11 auto rate filings that have requested the use of credit information in rating applicants for insurance coverage. Of those, six haven't used [credit scoring] either because they were withdrawn or the insurance company removed credit scoring from the factor. Two auto filings were approved and the remaining filings are under review or have been disapproved. Of the four home owner filings requesting the use of credit information in rating applicants, three have removed credit scoring and the remaining filing is still under review. MR. LOHR continued by informing the committee that two insurance companies also use credit scoring in the underwriting process. "Unlike the rating of insurance applications based on risk factors, the Division of Insurance does not have statutory authority to require prior approval of underwriting criteria; that is we don't have statutory authority over underwriting," he explained. As the use of credit scoring has increased, the division has received consumer complaints about its use. Several of those complaints state that policy holder rates increased simply because of the credit score not because of changes in driving factors. The insurance companies haven't been able to adequately explain why auto rates change because of credit history. MR. LOHR pointed out that recently the Washington legislature has adopted legislation on the subject of credit scoring. That legislation does restrict the use of credit scores in evaluating the application by insurance companies. For example, for the underwriting considerations for cancellation and nonrenewal, the use of one's credit history will be entirely prohibited. Furthermore, current holders of policies won't lose their policy based on changes to their credit history while new customers can be denied coverage based on a credit history that is combined with other underwriting factors. Severe restrictions were placed on the absence of credit history, the number of credit inquiries, collection accounts identified with medical bills, the initial purchase of vehicles or homes, the use of a particular type of credit card, and the total line of credit held by a consumer. In summary, Mr. Lohr said that there are a number of approaches that attempt to construe the term "unfairly discriminatory" in the context of credit scoring used by insurers. Number 349 CHAIR MURKOWSKI pointed out that the committee packet includes a document regarding what is happening in the State of Washington. This document also refers to not allowing credit scoring to be the sole criterion. She said she understood Mr. Lohr's testimony to relate that appropriate restrictions [to credit scoring] should be considered, but whether to have a complete prohibition is a policy call for the legislature. REPRESENTATIVE HALCRO related his understanding that the division has the authority to review all rate filings. Therefore, if a company approaches the division with a rate based on credit scoring, the division has the ability to review whether it's fair. MR. LOHR answered that such would be the case for most lines of insurance. For the lines of insurance that have been discussed, the division has the responsibility to determine that the rates aren't unfairly discriminatory. He noted that "unfairly discriminatory" is a fairly vague term. When these filings [that allowed credit scoring] were originally approved, the reviewers didn't find them to be unfairly discriminatory. Now that the filings have been approved, the burden is on the division to show that those rates are unfairly discriminatory. He acknowledged the potential for credit scoring to produce unfairly discriminatory rates. However, to actually show that such has happened would be far more difficult and [result in] a pretentious and protracted proceeding, he predicted. In further response to Representative Halcro, Mr. Lohr confirmed that the division has denied some of the filings that were based on credit scoring. Number 303 SARAH McNAIR-GROVE, Actuary P/C, Division of Insurance, Department of Community & Economic Development, addressed the 11 auto insurance filings that requested the use of credit information. Through the division's process, considerable time has been spent gathering information. The division spent over a year gathering information for one particular filing. She explained that once the division receives a filing it has 15 days to review it and send questions to the insurer. Therefore, the fact that the process has taken a year indicates that there have been substantial communications. She informed the committee that the insurer was asked to provide support justifying the use of the model, to specify which information is used from the credit report that goes into the model, and to [point out] the correlation those particular items have to loss experience and loss history. She noted that the division hasn't received some of the information that details what factors are taken off the credit report and how those go into the model because the insurers believe that information to be proprietary. Because the division couldn't make a determination, the insurer withdrew its filing in order to get some of the other pieces of the filing approved. Number 400 REPRESENTATIVE HALCRO suggested that when insurers come to the division with a rate filing based on credit scoring, the insurers should have to "show their work." He viewed that as a better alternative than completely prohibiting credit scoring. MR. McNAIR-GROVE explained that from the insurance company's point of view the current problem relates to the statute that says, "when a filing becomes effective, the filing and all of its supporting information is public." Because the insurance companies have worked hard on these filings or have purchased them from third party vendors who are the credit reporting agencies, they don't want this information disclosed to the public. Changing statute to allow the insurance companies to keep supporting information private is a policy call for the legislature. CHAIR MURKOWSKI said she assumed that the division did receive the [proprietary supporting information] for those filings [using credit scoring] that the division approved. MS. McNAIR-GROVE answered that because the insurance company wanted their filing approved, it provided the division with the [proprietary supporting information]. The first company that the division approved was able to provide the division with the information because it did its own in-house model. CHAIR MURKOWSKI surmised then that Ms. McNair-Grove is suggesting that models obtained through a third party make it difficult to obtain the [proprietary supporting information]. MS. McNAIR-GROVE clarified that such would be partially true. She explained that a recent filing from Allstate was withdrawn. Although Allstate does its own proprietary model, it didn't want to make it public. Number 424 REPRESENTATIVE HALCRO expressed concern with completely prohibiting the ability to use credit scoring. Those with excellent credit who are also a low risk should enjoy the benefit of lower premiums based on their credit scores. However, those with no credit or only one or two minor incidences on their credit report should have their ability to purchase coverage protected as well as the affordability of that coverage. He asked if narrowing the type of information the insurance companies had to supply to the division would be helpful. MS. McNAIR-GROVE said, "I'm not sure that it's the information that they would have to supply to us; I think it's how they would use that information." She pointed out that the State of Washington is placing some limits on the difference in rates between the lowest and the highest. Although she said she wasn't suggesting that such be done, she felt that perhaps such limitations would be more helpful than specifying the information that has to be provided to the division. Number 442 REPRESENTATIVE HAYES asked if an individual could obtain a listing of the nine companies that are using a model with credit scoring. MS. McNAIR-GROVE replied yes, those filings are public information. REPRESENTATIVE ROKEBERG related his understanding that the act of underwriting relates to whether a company will accept or deny a new client. He said he believes that those standards could be effected by the credit rating. Therefore, he asked whether HB 395 would prohibit the underwriting or selection of new business by insurers. MR. LOHR explained that the current draft of HB 395 includes the notion of underwriting. However, if the goal of HB 395 is to prohibit the use of credit scoring in underwriting, the division would recommend an amendment that is directed to AS 21.36, which is a more appropriate location for underwriting restrictions. REPRESENTATIVE ROKEBERG recalled Mr. Lohr's earlier testimony that the division doesn't have the authority to regulate the underwriting functions. MR. LOHR said that currently he doesn't believe that the division has general authority to oversee or second guess the underwriting process by insurers. If it were to be addressed, he said he believes it would be precedent-setting. REPRESENTATIVE ROKEBERG surmised that HB 395 is opening up a new area of government regulation. Number 477 CHAIR MURKOWSKI referred to a document that notes that the NAIC appointed a group to review this issue of consumer credit reports in underwriting. She inquired as to whether Mr. Lohr had any information from that group. MR. LOHR informed the committee that the group reviewing this issue will have a quarterly meeting in the next week to ten days. Mr. Lohr noted that he is the Alaska representative at that meeting and thus he intends to fully participate. In further response to Chair Murkowski, Mr. Lohr agreed that his participation will result in updates with regard to how other states are addressing this issue. He mentioned that today [the division] received the language of the State of Washington's bill. He offered to forward that language to the committee. REPRESENTATIVE HALCRO asked if Mr. Lohr read HB 395 to apply to all lines of insurance, including commercial policies. MR. LOHR said that HB 395 is broadly written and thus he believes it would apply to any lines of insurance over which the division has rate-making authority. However, commercial policies are somewhat in transition due to the provision in HB 184 that requires the division to adopt regulations addressing the subject of commercial deregulation by July 1, 2002. REPRESENTATIVE ROKEBERG returned to the [NAIC] group that Mr. Lohr is part of and asked whether Mr. Lohr believes that a room full of insurance commissioners would have a philosophical bias to regulate more or less. MR. LOHR characterized the aforementioned as a loaded question. From his experience he said that normally bureaucrats and regulators don't seek reductions in their authority. On the other hand, any discussions of this group will have input from the public. Therefore, any model regulations or legislation would receive the full input of the public, including heavy participation from the insurance industry. Number 523 MICHAEL LESSMEIER, Lobbyist, State Farm Insurance Company, Lessmeier & Winters, noted that the committee packet should include a copy of the letter he sent to Senator Ben Stevens regarding identical legislation in the Senate. He informed the committee that State Farm currently writes approximately 24.4 percent of the automobile insurance premiums written in Alaska and almost 35 percent of the homeowner's insurance premiums. He felt that these statistics are important to keep in mind when there are charges that insurance companies are using [credit scoring] as a tool to raise rates. Mr. Lessmeier stated that State Farm isn't using [credit scoring] to set rates in Alaska. Furthermore, he said he didn't believe that the way State Farm is using [credit scoring] can be criticized. MR. LESSMEIER turned to the question of who benefits from the proper use of [credit scoring]. He informed the committee that State Farm has a fire and casualty company that insures homeowners, an automobile company that insures those with automobile insurance, and a mutual company that deals with the preferred customers. For the automobile insurance, State Farm started using an underwriting score in February 2001 in Alaska. That underwriting score considers traditional underwriting criteria such as loss history, frequency of loss, and types of loss. The underwriting score also includes a factor that considers certain elements of credit. However, this credit factor doesn't consider things such as past due medical or utility accounts. [The underwriting score] arrives as a single score and is used only for new business. Furthermore, [the underwriting score] is primarily used to write someone that the company wouldn't otherwise write because of the traditional underwriting criteria. He noted that there is a rare exception in which the [underwriting score] might be used to exclude someone. Use of the [underwriting score] resulted in State Farm more than doubling the new business that it wrote for automobile insurance. Through the use of [the underwriting score] we chose to write people that we wouldn't have otherwise written. Furthermore, [the underwriting score] has allowed State Farm to take those that would be in the standard company and move them to the mutual company. Therefore, State Farm views [the underwriting score] as positive and acceptable and thus would hate to see the legislature completely ban it. He estimated that last year the automobile side of State Farm wrote over 4,000 additional people. Perhaps not everyone was affected by this, but many probably were. MR. LESSMEIER recalled that there has been much testimony with regard to whether bad credit causes a loss. He informed the committee that State Farm did a study that found a high correlation between those who mismanage their credit and increased risk. State Farm believes that strongly enough that it is willing to take that tool and justify writing risks that it wouldn't otherwise write. He said, "They wouldn't be doing that if they doubted the validity of the predictor." He related his belief that there is overwhelming statistical evidence that [credit scoring] is a valid predictor. TAPE 02-32, SIDE B MR. LESSMEIER characterized [credit scoring] as fair when it's used to identify a higher category of risk so that the rate- making process can result in the appropriate rate being applied. Therefore, people of one category of risk wouldn't be subsidizing people of another category of risk. Mr. Lessmeier related [State Farm's] position that [credit scoring] is [appropriate] and the real issue is in relation to abuses and how to stop those. He expressed curiosity with regard to whether the division has found any misuse of [credit scoring]. Mr. Lessmeier said he couldn't imagine why an insurer would want to "run off" long-time customers on the basis of a credit score. MR. LESSMEIER turned to the litany of potential abuses that he has heard discussed. He pointed out that if there is an abuse in the rate applied to a particular group, that rate has already been approved by the division before being applied to anyone in the state. Therefore, the authority is there, and is present beyond merely approving the rate. Mr. Lessmeier recalled Senator Donley's unfair trade practices legislation last year. He said that it's an unfair trade practice for an insurer to make an arbitrary or unfair discrimination between insureds or property that share like risk characteristics. Therefore, if [credit scoring] is being misused, there are other statutory tools present to [address] and stop the misuse. Mr. Lessmeier related his belief that Representative Halcro's suggestion of a confidentiality provision would make the division's job easier. MR. LESSMEIER reiterated his earlier testimony that many of the ways in which insurers use this information is different. For example, he understood that State Farm doesn't penalize an individual for not having credit activity. Mr. Lessmeier related his belief that the market place has worked well in Alaska and he believes it will continue to do so. Furthermore, he said he believes that the Division of Insurance has significant oversight to allow [credit scoring] to work properly and stop situations in which it isn't working properly. Therefore, Mr. Lessmeier encouraged the committee to not entirely prohibit the use of [credit scoring]. Number 533 REPRESENTATIVE HALCRO recalled Senator Donley's bill that provided the director of the division the ability to go after some unfair trade practices without having to prove a systematic trail of abuses. Therefore, the director could go after the first sign of abuse, which seems to address any abuse. MR. LESSMEIER said he thinks the director has significant authority to stop anything that the director believes to be unfair. He indicated that directors have ways of stopping an unfair practice without going "to that point." He reiterated the need to document and stop specific abuses that can be documented. Furthermore, if the division needs a tool to help it with its regulatory authority, then let's provide the division with that tool. For example, Ms. McNair-Grove indicated that insurers may be reluctant to show the division their formula due to their belief that the formula is proprietary. If that fear could be removed via a guarantee of confidentiality, then it would seem that the division would have an easier task of reviewing these filings. Mr. Lessmeier mentioned that he has had a client who has experienced problems with the lack of sufficient confidentiality laws. He reiterated State Farm's belief that taking the tool [of credit scoring], which does have value as a predictor and can be used appropriately, is bad for the insuring public in general. Number 506 CHAIR MURKOWSKI requested that Ms. Lessmeier take the committee through how State Farm would deal with a senior citizen who doesn't have any active credit history. What would State Farm look at in order to place such an individual, she asked. MR. LESSMEIER related his understanding that no credit activity wouldn't be a negative factor and the individual would still receive an underwriting score. CHAIR MURKOWSKI surmised then that such an individual would enter State Farm at the same level as any other new applicant. Without a credit history, can a senior citizen "bump herself up" with regard to homeowner's insurance. MR. LESSMEIER answered that State Farm only uses the underwriting score to improve someone's status for homeowner's insurance. Furthermore, that has only be utilized since September 2001 and, to his knowledge, has only been done in two instances. With regard to auto insurance, Mr. Lessmeier related his understanding that an individual without a credit history isn't penalized. CHAIR MURKOWSKI said, "But they can't move up." MR. LESSMEIER related that he didn't believe such an individual would be penalized in any way. Mr. Lessmeier said that the real question would be whether this individual would qualify for placement in the mutual company based on the other traditional underwriting criteria. He said he believes that such an individual would qualify for placement in the mutual company. CHAIR MURKOWSKI recalled earlier testimony that an individual with some "black eyes" on their driving record, but with an excellent credit history could be placed in the preferred category. However, an individual with a clean driving record but not so good credit history might be treated differently. MR. LESSMEIER said that he didn't believe that was referencing a State Farm applicant. He expressed disbelief that one's credit history could override two DUIs. Mr. Lessmeier related his understanding that the only way that State Farm would use credit history would be for an initial applicant in order to write that initial applicant when the company wouldn't otherwise or to place the client in the mutual company rather than the standard. Number 464 CHAIR MURKOWSKI recalled Mr. Lessmeier's question regarding whether complaints filed with the division have been found to be valid with regard to the use of credit scoring. MS. McNAIR-GROVE explained that the division is still looking into those complaints. The division has had difficulty in obtaining clear answers from the insurers with regard to the decisions they made. She said she didn't believe any of the complaints had reached investigation status at this point. REPRESENTATIVE ROKEBERG recalled Ms. McNair-Grove's testimony regarding the number of companies that have applied, withdrawn, and were approved. He estimated that her figures meant that about 80 percent of the applicants either withdrew or weren't approved by the division. He asked if that is the normal rate of attrition. MS. McNAIR-GROVE said that is a rather high rate that isn't a normal rate at which the division disapproves filings. REPRESENTATIVE ROKEBERG commented that this is fairly telling in that it indicates that the division is fairly aggressive and doing its job. MS. McNAIR-GROVE, in response to Chair Murkowski, related her belief that the high number of withdrawals is related to the use of the proprietary models that resulted in the companies not wanting to disclose that information. Number 428 MR. LESSMEIER highlighted that he can only speak to what State Farm does, not the industry as a whole. He reiterated his belief that it's critical for the committee to know whether the division has seen a misuse of [credit scoring] by insurance companies in Alaska. If that misuse has occurred, it [would be helpful] to know how that misuse occurred. Only with that information, can the determination be made as to how to correct it. Again, he said he didn't believe it would be wise to entirely preclude the use of a tool that has beneficial uses merely because of anecdotal evidence or evidence from other jurisdictions that may have different regulatory schemes. MR. LESSMEIER highlighted the importance of knowing that overall, insurance rates are determined by the frequency and severity of loss. There have been suggestions [in the Senate] that rates in Hawaii are low due to the ban on the use of credit scoring. He related that any assertion to that effect reflects a misunderstanding of the factors that do influence insurance rates. The only thing credit scoring relates to is in regard to what business is written by what company and who pays. REPRESENTATIVE ROKEBERG asked if Mr. Lessmeier is suggesting that because of FCRA, "we couldn't do what we're contemplating doing here." MR. LESSMEIER replied that he believes part of what is being contemplated could be accomplished. He related his understanding of FCRA that even if [HB 395] is passed, some of the direct writers will use credit scoring in order to target those they want to solicit via the mail, which he likened to the unsolicited credit card applications. He didn't believe such could be stopped. CHAIR MURKOWSKI remarked that some good issues have been raised such as Representative Halcro's suggestion for a guarantee of confidentiality and Representative Rokeberg's comments regarding the impact to the underwriter. Enough legitimate questions have been raised, and therefore she requested that the sponsor take under [advisement] and report back to the committee. REPRESENTATIVE CRAWFORD announced his desire to review HB 395 and address the unintended consequences.
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