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
ALASKA STATE LEGISLATURE
HOUSE LABOR AND COMMERCE STANDING COMMITTEE
March 6, 2002
3:20 p.m.
MEMBERS PRESENT
Representative Lisa Murkowski, Chair
Representative Andrew Halcro, Vice Chair
Representative Kevin Meyer
Representative Pete Kott
Representative Norman Rokeberg
Representative Harry Crawford
Representative Joe Hayes
MEMBERS ABSENT
All members present
COMMITTEE CALENDAR
HOUSE BILL NO. 418
"An Act amending the Alaska Corporations Code as it relates to
delivery of annual reports, notice of shareholders' meetings,
proxy statements, and other information to shareholders, and
providing for electronic proxy voting."
- INFORMED THE COMMITTEE OF NEW INFORMATION
[PREVIOUSLY MOVED CSHB 418(L&C) OUT OF COMMITTEE]
HOUSE BILL NO. 470
"An Act relating to common interest ownership; and providing for
an effective date."
- MOVED CSHB 470(L&C) OUT OF COMMITTEE
HOUSE BILL NO. 395
"An Act prohibiting discrimination by credit rating or credit
scoring in insurance rates; and providing for an effective
date."
- HEARD AND HELD
HOUSE BILL NO. 355
"An Act relating to the taxation of mobile telecommunications
services by municipalities; and providing for an effective
date."
- BILL HEARING CANCELED
HOUSE BILL NO. 182
"An Act relating to motor vehicles; and providing for an
effective date."
- BILL HEARING POSTPONED
PREVIOUS ACTION
BILL: HB 470
SHORT TITLE:COMMON INTEREST OWNERSHIP
SPONSOR(S): REPRESENTATIVE(S)ROKEBERG
Jrn-Date Jrn-Page Action
02/19/02 2314 (H) READ THE FIRST TIME -
REFERRALS
02/19/02 2314 (H) L&C
03/06/02 (H) L&C AT 3:15 PM CAPITOL 17
BILL: HB 395
SHORT TITLE:INSURANCE DISCRIMINATION BY CREDIT RATING
SPONSOR(S): REPRESENTATIVE(S)CRAWFORD
Jrn-Date Jrn-Page Action
02/08/02 2183 (H) READ THE FIRST TIME -
REFERRALS
02/08/02 2183 (H) L&C
02/08/02 2183 (H) REFERRED TO LABOR & COMMERCE
03/06/02 (H) L&C AT 3:15 PM CAPITOL 17
WITNESS REGISTER
JON FAULKNER, President
Land's End Acquisition Corporation
4786 Homer Spit Road
Homer, Alaska 99603
POSITION STATEMENT: Testified in support of HB 470.
BOB PETERSON
The Peterson Group Inc.
(No address provided)
Anchorage, Alaska
POSITION STATEMENT: Testified in support of HB 470.
CHARLES SPINELLI, President
Anchorage Home Builders Association;
and President
Spinelli Homes Inc.
9210 Vanguard Drive, Suite 102
Anchorage, Alaska 99507
POSITION STATEMENT: Testified in support of HB 470.
JESS HALL, Home Builder
PO Box 1987
Palmer, Alaska 99645
POSITION STATEMENT: Testified on HB 470.
ROBIN WARD, Legislative Co-chair
Alaska State Home Builders Association
6633 Brayton Drive
Anchorage, Alaska 99507
POSITION STATEMENT: Testified on HB 470.
DAVE D'AMATO, Staff
to Representative Crawford
Alaska State Legislature
Capitol Building, Room 426
Juneau, Alaska 99801
POSITION STATEMENT: Testified on behalf of the sponsor.
MARIE DARLIN
AARP
(No address provided)
Juneau, Alaska
POSITION STATEMENT: Testified in support of HB 395.
JOHN GEORGE
National Association of Independent Insurers
3328 Fritz Cove Road
Juneau, Alaska
POSITION STATEMENT: Provided information with regard to credit
scoring and the impacts of HB 395.
BOB LOHR, Director
Division of Insurance
Department of Community & Economic Development
3601 C Street, Suite 1324
Anchorage, Alaska 99503-5948
POSITION STATEMENT: Testified in support of the concept behind
HB 395.
SARAH McNAIR-GROVE, Actuary P/C
Division of Insurance
Department of Community & Economic Development
PO Box 110805
Juneau, Alaska 99811-0805
POSITION STATEMENT: Provided information with regard to the
filings including credit scoring that the division has received.
MICHAEL LESSMEIER, Lobbyist
State Farm Insurance Company
Lessmeier & Winters
3000 Vintage Boulevard, Number 100
Juneau, Alaska 99801
POSITION STATEMENT: Testified that State Farm isn't using
[credit scoring] to set rates in Alaska, and furthermore he
didn't believe that the way State Farm is using [credit scoring]
could be criticized.
ACTION NARRATIVE
TAPE 02-31, SIDE A
Number 001
CHAIR LISA MURKOWSKI called the House Labor and Commerce
Standing Committee meeting to order at 3:20 p.m.
Representatives Murkowski, Halcro, Meyer, Rokeberg, and Crawford
were present at the call to order. Representatives Kott and
Hayes arrived as the meeting was in progress.
HB 418-ELECTRONIC PROXY VOTING & NOTIFICATION
Number 023
CHAIR MURKOWSKI briefly brought attention to HOUSE BILL NO. 418,
"An Act amending the Alaska Corporations Code as it relates to
delivery of annual reports, notice of shareholders' meetings,
proxy statements, and other information to shareholders, and
providing for electronic proxy voting."
CHAIR MURKOWSKI informed the committee that she received an e-
mail from Terry Elder in regards to HB 418. A question had been
asked in committee as to what happens when shareholder dividends
are not claimed. She said she has learned that once the
property is presumed to have been abandoned and was unclaimed by
the owner for more than seven years after becoming payable,
provided that there have been at least seven dividend
distributions or other payments made during the period, the
corporation is required to report it to the Department of
Revenue. At that point the Department of Revenue assumes
custody and control of the property and the cash is deposited
into the general fund. She added that the person to whom the
payment was initially made can make a claim against the
Department of Revenue for the property after the fact, but it is
a seven-year time period.
HB 470-COMMON INTEREST OWNERSHIP
Number 040
CHAIR MURKOWSKI announced that the committee would now hear
HOUSE BILL NO. 470, "An Act relating to common interest
ownership; and providing for an effective date."
REPRESENTATIVE ROKEBERG, sponsor, introduced HB 470 to the
committee. He asked if the committee would consider adopting
the proposed committee substitute (CS), Version F.
Number 053
REPRESENTATIVE HALCRO moved to adopt the CS for HB 470, version
22-LS1522\F, Kurtz, 2/25/02, as the working document. There
being no objection, Version F was before the committee.
REPRESENTATIVE ROKEBERG offered that [HB 470] is a small
technical change to the state statute [AS 34.08.580]. He said
this particular provision of the Uniform Common Interest
Ownership Act (UCIOA) is the controlling statutory title under
which all condominium, cooperative, and public PUD (planned unit
development) type of developments are controlled and regulated
by the State of Alaska. He mentioned that this issue was
brought to his attention by Mr. Jonathan Faulkner of Homer,
Alaska, who is having difficulty with a new development at
Land's End [Resort]. He mentioned that [HB 470] is consistent
with work he has done with the Alaska Home Builders Association
in trying to revise the UCIOA. He stated that provisions [in HB
470] address what's called the public offering statement (POS),
which is the "technical fix".
Number 088
REPRESENTATIVE ROKEBERG said that the reason for introducing HB
470 is because the current law provides that a purchaser, prior
to the conveyance of title, may cancel a purchase agreement
within 15 days of receipt of a POS. He explained that a POS has
to be provided before closure can be made on a sale of a
condominium, which becomes a problem, particularly in the
presale of high-end condominiums. Under current statute, a POS,
which includes the final legal as-built survey and legal
description, cannot be provided until such time as the project
is completed.
Number 111
REPRESENTATIVE ROKEBERG explained that in order to overcome that
provision in the statute HB 470 simply [requires] that a
preliminary version of the POS be provided such that it
reasonably reflects the contents of the final POS. He mentioned
that the CS added, in Section 2, page 3, line 29, the words "up
to".
REPRESENTATIVE ROKEBERG said:
What, in essence, we've done is set up a scenario in
state statute where somebody could commit to buying an
expensive condominium, wait for the presentation of
the [POS] and then decline to buy it and reap profits
from his denial of fulfilling his contract. That's
not a good way to have the statute written. Hopefully
that's not happened, but we need to correct it before
it does.
REPRESENTATIVE ROKEBERG pointed out that many times it's very
difficult to get construction financing if this statute is "over
the head of the developer." He mentioned that there are people
online who can testify to the practical impacts of this.
Number 141
CHAIR MURKOWSKI said that the only question that she has is
regarding the wording "reasonably reflects", and asked if this
language is [tantamount to] "substantially similar". How close
does "reasonably reflect" have to be to the actual public
offering [statement], she asked.
REPRESENTATIVE ROKEBERG said that he would have to defer to the
drafter, but he would assume that "the reasonable standard would
be accepted as the reasonable standard of basic common law." He
[assumed] that the common practice would be that the basic POS
would be provided except for those things that couldn't be
included until the final as-built survey and other procedures
were completed. Because there are a number of units in a
condominium project, there's a certain amount of continuity.
Number 164
JON FAULKNER, President, Land's End Acquisition Corporation,
testified via teleconference. He said that he sent an e-mail to
the committee members yesterday, and noticed today that at least
two of the messages did not go through. He said that he would
like to read the short letter.
CHAIR MURKOWSKI informed Mr. Faulkner that each committee
member's packet includes a copy of his letter. She asked if he
was referring to the letter dated February 26.
MR. FAULKNER clarified that it wasn't the same letter. He noted
his agreement with Representative Rokeberg in that HB 470 is not
a change in law but rather a clarification of an existing law
that is vague. The law is vague because it leaves in doubt
whether a POS can meet all the legal requirements if it is
delivered in good faith prior to actual construction of the
unit. He explained that HB 470 clarifies that a POS that
reasonably reflects the data contained in the final recorded
declaration, [when] delivered prior to construction, meets the
intent of the law. Delivery Of a POS to a buyer prior to
construction is standard practice. He highlighted that the 15-
day right of rescission starts as soon as the POS is delivered
and the deposit becomes non-refundable after the 15-day period.
This is the negotiated protection that a developer needs in
order to proceed with a large custom condominium project. He
explained that under the existing law, a buyer could make a
legal claim that the preliminary POS that he/she received prior
to construction wasn't precisely accurate. Therefore, the
contract would be voided because it didn't contain the precise
square footages and the common interest allocations that are
determined by an as-built survey.
Number 208
MR. FAULKNER mentioned that there has never been a claim brought
before a court on this subject, and HB 470 would prevent that
possibility in the future. The purpose of a POS and the 15-day
right of rescission is to assure full disclosure to prevent
pressure sales tactics that might result in a hasty decision
from a buyer. This generally gives a buyer time to reflect on
the cost and the risks of ownership. He offered that HB 470
does not compromise any of these purposes, but rather removes a
loophole which has the potential to cause huge losses to a
developer. He said:
Banks and financial institutions are aware of this
loophole, as are contractors, and therefore when you
go to sign a contract with the contractor or apply for
financing to a bank, the question comes up, "What are
you going to do if the buyer cancels your contract
once you've already built the thing?" And you can't
answer that, other than to say, "I've got $2 million
in cash sitting in the bank," which not many
developers do, and it's not a reasonable expectation.
Number 228
REPRESENTATIVE ROKEBERG asked Mr. Faulkner how difficult it is
to obtain construction financing because of this loophole.
MR. FAULKNER said that it is more difficult to obtain
construction financing with this loophole than without it. He
said that banks do not look at the collateral of the contract to
fund interim construction. Traditionally banks look at the net
worth of the developer and the developer's track record.
Although banks also look at the real estate, if the real estate
isn't secured by an ironclad contract with performance
guarantees, then a bank can't look to that. This results in the
banks looking to the developer for the full net worth, exclusive
of the project, to back the interim construction. He explained
that the difficulty in obtaining financing is related to the
strength of the developer. The effect is to limit interim
construction financing for projects like [Land's End Resort] to
the very large developers. Mr. Faulkner added that in Land's
End's case obtaining financing hasn't been an "extreme" problem
because of its significant assets in an ongoing enterprise.
However, [the loophole] has definitely impacted its ability to
obtain financing.
Number 255
BOB PETERSON, The Peterson Group Inc., testified via
teleconference. He noted that he is a custom homebuilder and
condominium developer in Anchorage. He said this area of
statute has intimidated him because while he can provide a buyer
with the preliminary POS, he can't record the plat and the
consequent declarations to fulfill a fully amended POS until
there is substantial completion of that building. He explained
that "substantial completion" is defined as having the roof on
and all of the mechanicals in place. He said that at that point
in a custom product there can be numerous changes unique to that
particular buyer.
Number 273
MR. PETERSON said:
Yet the way this was worded, until that point the
buyer could take 15 days after you recorded the plat
declarations and then cancel the contract, in which
case the developer who's made all the changes in good
faith, has a unique unit that may not be marketable.
MR. PETERSON mentioned that he has not run into this kind of
problem with lower level units because those buyers barely
afford them and they don't make many changes. Furthermore, the
market time to resell a lower level unit is very small compared
to a custom product. He pointed out that the developer doesn't
normally record the plat until the unit is almost done because
the statute states that the developer has to pay homeowners'
association dues the month that the developer records the plat.
Therefore, if a developer actually recorded a plat on a building
that had the roof on and the mechanical in but there was four
months to completion, the developer would be paying homeowners'
association dues on each unit under construction, which makes it
unaffordable to continue. "I support the changes that HB 470 is
proposing, and I think that there's ... ethical and sound
reasons to do that," he concluded.
Number 297
CHAIR MURKOWSKI asked Mr. Peterson if he views [HB 470] as a
precaution to make sure that this problem doesn't arise in the
future.
MR. PETERSON responded in the affirmative. He said that the
current statute has never really made sense to him. Under the
current statute, a developer who has agreed to build a custom
unit for a buyer is stuck with that unit if the buyer decides,
for any reason outside of the development, to move to Arizona
and relieve himself/herself of the contract. He stated, "I
believe that puts undue burden on the developer." He mentioned
that although this hasn't happened to him yet, probability is
not on his side.
Number 311
REPRESENTATIVE ROKEBERG asked Mr. Peterson if he thinks that his
decisions regarding which projects to pursue are influenced by
the way the law is currently written.
MR. PETERSON said, "Absolutely." He said that he built a high-
end custom condominium project in Anchorage that was a financial
disaster, but fortunately his lower-end units made up for that
loss. He said, "Until some of these sorts of things get cleared
up in statute, I am not interested in building a high-end unit
that exposes me like that."
Number 323
CHARLES SPINELLI, President, Anchorage Home Builders
Association; and President, Spinelli Homes Inc., testified in
support of HB 470. He addressed the language in HB 470 that
reads, "up to 10 percent" penalty. He said that he has been
concerned with this language since the day he put out his first
public offering statement in 1992 or 1993 "when this bill
arrived on our doorstep." He said that at that time he was
doing public offering statements in Eagle Crossing Subdivision
or Park View Terrace Subdivision, and the monthly dues were
somewhere around $15 or $20. He explained that the dues were
basically just to cover some landscaping and common area
insurance around the project. Mr. Spinelli said, "The
homeowners were liable for ... about $160 a month in dues and
if, by chance, I had forgotten to present them with the public
offering statement, my penalty would have been 10 percent of the
house price." He said that in those days the average sales
price was probably $160,000, so his penalty would have been
$16,000. He stated, "I think that's 100 years worth of dues
because I forgot to give them a public offering statement."
MR. SPINELLI remarked that it is unfair to state that the
developer will just pay the buyer 10 percent. He said that he
isn't sure what procedure occurs to make that happen.
Therefore, clarifying the language by adding the language "up to
10 percent" will make it "pretty clear that it's going to have
to be judged on the merits of the case and that way everybody's
treated fairly."
Number 357
REPRESENTATIVE ROKEBERG mentioned that it seems that the courts
would have to assess the 10 percent because clearly there would
be a dispute over a breach of contract. He said that according
to the statute the judge would have no choice but to award the
10 percent whether it was fair or not. He asked Mr. Spinelli if
this is his interpretation.
MR. SPINELLI replied, "Yes."
REPRESENTATIVE ROKEBERG surmised, "So the reason for the 'up to'
gives the judge the discretion to make an award based on the
merits of the argument and the evidence presented in the
courtroom."
MR. SPINELLI agreed and said, "Sort of like the penalty should
fit the crime." Mr. Spinelli related that this is his second
time as the president of the Home Builders Association, which
provides him with information about what's current and what's
going on. However, those people living in remote areas across
the state [may be] are advised by attorneys who may not know the
ins and outs of UCIOA.
Number 379
JESS HALL, Home Builder, said that he had the opportunity to
learn about the Uniform Common Interest Ownership Act (UCIOA)
about 6-8 months ago when he did a development for a subdivision
in the [Matanuska-Susitna] Valley. He explained that he had an
attorney draft up all the necessary documents because there was
community property and he knew that he would have to set up a
homeowners' association. However, after he was already in the
project he found out that it actually fell under the UCIOA.
After relating this to the attorney, the attorney said that he
had never heard of [UCIOA] before. He talked to another
attorney who also had no idea what UCIOA was either. "So that
was a little concerning to me," he said.
MR. HALL said that he ended up with an attorney in Anchorage who
specialized in this, who worked back through the process, and
informed Mr. Hall about the 10 percent figure in statute. This
was pretty interesting because he already had the first phase of
the subdivision 100 percent complete and all of the people had
already moved into the houses. He asked, "Would it be the lot
that we sold since that's kind of the part that has the common
ownership, or is the house you attach to the lot?" He noted his
support of the addition of the language "up to 10 percent".
MR. HALL mentioned that if a developer makes a mistake it needs
to be corrected. If it's going to go to a judge and jury, then
they should probably decide where the mistake was. He pointed
out that all of the documents that he provided to the homeowners
were basically exactly the same as the public offering
statement, although there were a lot more documents. He said,
"Some of the stuff that we would have had the homeowners'
association do themselves as the owners of the common property
should have actually been done on a piece of paper ahead of time
instead of after."
Number 411
REPRESENTATIVE ROKEBERG asked Mr. Hall if he thinks medium or
lower-end condominiums are affected by HB 470 and the UCIOA the
same as high-end condominiums.
MR. HALL said that he hasn't built any condominiums since before
UCIOA was enacted. He recalled that the last time he "did one
was under the Horizontal Property Regime Act," which was more
simple. He offered that he thinks that there is probably more
concern for a developer of luxury condominiums than there would
be for a developer of lower-end condominiums simply because the
lower-end condominiums would be easier to resell. He said:
Same way in a subdivision. ... I do single-family
houses with maybe a common park or whatever in there.
We're under that same situation where we build the
house, we didn't hand out -- even if we did a public
offering statement and we left one paper out, or
inadvertently missed a couple of documents in there,
then technically it's not the public offering
statement. It has to be everything. You could still
end up in that 10 percent situation. I don't know
whether the "substantially complete" part would apply
over to PUD like it does a condominium. But there
certainly is some cross over in there.
Number 427
REPRESENTATIVE ROKEBERG asked Mr. Hall if he is still under
UCIOA because he has a homeowners' association with detached
houses.
MR. HALL responded in the affirmative, and explained that this
is because there is a piece of property that everyone in the
subdivision owns collectively.
REPRESENTATIVE ROKEBERG said, "The interpretation is that UCIOA
applies to that type of an association."
MR. HALL stated, "That's what the other attorneys told me."
REPRESENTATIVE ROKEBERG interjected, "... POS and these other
provisions and so forth also come into play?"
MR. HALL responded, "Everything in that Act is going to come
into play."
REPRESENTATIVE ROKEBERG interjected, "The intention of the
legislature when they did that was supposed to be condominiums,
cooperatives, and PUDs, is what I understood."
Number 438
MR. HALL said that he spoke with a developer from the
[Matanuska-Susitna] Valley last night who is not aware of
[UCIOA]. He said that the developer has built a subdivision
with about 20 single-family houses on one-acre lots, but there
is a common piece of property big enough to put a subdivision
sign on. Mr. Hall explained that a homeowners' association is
going to be formed to pay taxes and liability insurance for that
plot of ground that is 8 by 10 feet. He said that this
developer had no idea there was a UCIOA. He said:
So he's sitting there with 20 sold houses with people
living in them, with the 10 percent possibility [that]
if 20 people decide to get together and hire an
attorney, he's bankrupt. He'd just file his papers
and be gone. I don't [believe] that quite fits the
intent of where UCIOA was. Maybe it's because we're
not in Anchorage and we're not as familiar with
talking about, and having attorneys come into ...
meetings and talk about UCIOA. ... And kind of
learning that process, we're just now starting to
learn it....
Number 450
CHAIR MURKOWSKI said, "Perhaps we should suggest to the bar
association [that] they have a continuing legal education
seminar on UCIOA out in the Valley."
MR. HALL replied that he has made that suggestion a couple of
times.
Number 454
ROBIN WARD, Legislative Co-Chair, Alaska State Home Builders
Association, said, "This needs a comprehensive change, but as
you said, it's about 54 pages long." She mentioned that [the
Alaska State Home Builders Association has] fast-tracked the two
items that were of concern. She said:
I have to tell you that I did a little checking just
before I left Anchorage. Almost one-half of the
listings in MLS [Multiple Listing Service] right now
are new construction, and two-thirds of those fall
under this Act. Almost all of our new subdivisions
have some kind of common property, whether it's a
sign, whether it's a greenbelt, something. We were
doing an awful lot of what's called 'site condos
planned communities'. All of those fall under the
Common Interest Ownership Act. So this for us in
Anchorage is tremendous.
I will tell you that it is moving out, and as you can
tell, to the Valley. At least those of us in
Anchorage know the law fairly well. It's very complex
and it's up to interpretation in certain areas. But
these outlaying areas do not. And there's going to be
some mistakes made, and I can see it happening. ...
The probability ... is not on our side. ... A mistake
will happen and it will happen very soon and it will
be very, very costly for a developer. So we're
begging your indulgence to work on this bill.
Number 470
REPRESENTATIVE ROKEBERG requested that Ms. Ward "give a nutshell
version of ... the [Horizontal Property Regime Act] that
transitioned to UCIOA as a model act."
MS. WARD said:
This was uniform legislation, ... and basically ... we
were one of the very first states, I think, to adopt
it in 1984. ... It is very complex. There were
basically no changes. It was just adopted. They came
out with model adoptions and amendments in 1994.
Uniform amendments that have never been changed here
either. That's one of the things we've been looking
at; ... taking those along with what we call local
amendments, things that fit Alaska for what we do, and
that's what will be in the comprehensive bill. But
again, these were just the two that we pulled out that
we felt needed to be fast-tracked.
Number 481
REPRESENTATIVE ROKEBERG mentioned that he is very disturbed when
a detached home subdivision with common area property falls
under UCIOA. He said, "It is my understanding that ... the
intent was to keep it to those specific types of developments
rather than just having a homeowners' association."
MS. WARD said, "Anything that has any common property, commonly
owned by the owners of the subdivision or condominium. And a
site condominium falls under that also, which we are building a
lot of ... in Anchorage. All of that falls under..."
REPRESENTATIVE ROKEBERG interjected, and inquired about site
condominiums.
MS. WARD explained that it's like a planned unit where one owns
the house, but the land is owned by the [homeowners']
association. She said, "We can't do PUDs anymore, so we call
them planned communities."
REPRESENTATIVE ROKEBERG asked, "Is that because of the way that
that statute was drafted under the model act?"
MS. WARD specified that it's the way the uniform legislation was
drafted.
Number 500
REPRESENTATIVE CRAWFORD stated his support for HB 470.
REPRESENTATIVE MEYER moved to report CSHB 470(L&C), version F,
out of committee with individual recommendations and the
accompanying zero fiscal note. There being no objection, CSHB
470(L&C) was moved from the House Labor and Commerce Standing
Committee.
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.
ADJOURNMENT
There being no further business before the committee, the House
Labor and Commerce Standing Committee meeting was adjourned at
6:04 p.m.
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