Think Moderation on Loss History Reports Regulation
Homeownership is considered the centerpiece of the American dream. Homeowners insurance enables individuals and families to protect what is likely to be their single largest asset. Before finalizing their purchase, most buyers hire a home inspector to thoroughly check the structure and its systems for overall quality or to spot potential problems.
Just as it is important for a prospective buyer to know everything she can about a property, it is equally critical for the insurer to understand the full extent of the risk involved with insuring that home.
However, insurers face mounting challenges to their ability to use a very valuable, objective tool for homeowners insurance underwriting and rating: loss history reports. A number of states already have enacted legislation restricting insurer use of loss history, and the National Conference of Insurance Legislators and the National Association of Insurance Commissioners (NAIC) are both considering model legislation in this area.
More than 90 percent of insurers writing homeowners coverage report loss information to databases such as the Comprehensive Loss Underwriting Exchange. These databases contain information about both losses to properties and the claiming behavior of the homeowners insurance applicant. Such databases enable insurance companies to obtain prior loss information to assist in the underwriting and rating processes.
Insurer data show that prior losses are highly predictive of the likelihood of future losses, regardless of whether: (1) a claim was paid; (2) the loss took place when the home was owned by the current or a previous owner; or (3) the cause of the loss was natural or man-made.
Moreover, data demonstrate that an individual who has made a claim in the past is more likely to make a claim in the future. Consequently, loss history databases help the insurer make better informed and more accurate underwriting and rating decisions.
For example, a recently enacted law in North Dakota (Senate Bill 2186) restricts insurers’ ability to use loss history for underwriting and rating. In North Dakota, insurers no longer can consider claims closed without payment, claims that occurred before the applicant owned the property, and wind or hail claims, unless the insurer independently verifies whether damage was unrepaired, or whether the failure to maintain the property contributed to the loss.
This law essentially makes it much more difficult and costly for an insurer to be able to distinguish between properties that have experienced losses and those that have not, which is fundamental to the business of underwriting homeowners insurance.
While the supporters of the new North Dakota law were undoubtedly well-intentioned, it may have negative unintended consequences. The costs of independent verification (e.g., conducting a pre-underwriting physical inspection) will be significant. Such costs will have to be passed along to insurance consumers. In addition, those policyholders whose homes have been loss-free will end up subsidizing insurance costs for policyholders with a history of losses. In this case, the customer will be the loser and there will be no apparent winner.
NCOIL and the NAIC will meet this summer to address model legislation governing insurer use of loss history reports. It is important for these organizations to remember that the homeowners insurance system is not fault-based.
Rather, its very foundation is to distinguish among properties based on their risk characteristics. Insurers do not use prior loss information to punish customers, as some critics of the tool have posited. Insurers want to attract new customers and retain good customers for a long time, just like any business.
Consequently, NCOIL and NAIC should consider the negative ramifications of any legislation that imposes serious restrictions on an insurer’s ability to use valid, objective underwriting tools to distinguish among properties before adopting model legislation. Insurers need reasonable underwriting tools to allow them to better control their exposures to loss. And, from our experience across the country, we know that insurers’ uncertainty about their exposure can cause great disruption in the marketplace.
The use of prior loss information databases enhances the amount of information available to all interested parties. The track record of a home-regardless of who owned it at the time of the loss -is important to help insurers evaluate the likelihood of future risk. When insurers are able to make underwriting determinations based on objective loss criteria, it helps keep costs down, which in turn helps keep insurance affordable.
Eric Goldberg is assistant general counsel for the
American Insurance Association.