Regulators Address the Politics of Underwriting

There is an X-factor in setting insurance rates that even actuaries would have a hard time calculating: Politics.

For those who serve as their state’s ultimate authority on what factors insurers can use to raise or lower rates, political calculations can weigh heavily.

At least, that was the consensus of a panel of four state legislators at the recent Insurance Information Institute’s Joint Industry Forum in New York where executives from across the property casualty spectrum were treated to an hour-long conversation about what it’s like to be on the outside of the industry looking in.

Underwriting Criteria at Odds

The discussion of underwriting criteria was one of the highlights of the panel. It was kicked off by David Sampson, head of the Property Casualty Insurers Association of America and forum moderator, who asked why some regulators continued to restrict information such as education and credit scoring from being used in underwriting.

“Insurance is a hot button political issue and if you are perceived not to be protecting the little person — the less educated consumer — then you are on the side of the industry,” said James J. Donelon, commissioner of insurance of Louisiana. “Education-based rating just doesn’t sell quite as easily as credit scoring. The perception is that you give yourself your own credit score, but education may be something God did or did not bless you with.”

In Massachusetts, said Commissioner Nonnie S. Burnes, credit-scoring proved a major obstacle in deregulating that state’s auto insurance market, a move set to go into effect later this year.

“It was (difficult to sell) the idea that we would let companies rate on factors that most people think are totally unrelated to insurance,” Burnes said. “Credit was the one that really nearly (killed) the whole thing. It is clearly correlated to risk, but does that make it good public policy? It poses serious questions about inaccurate credit scores generated by carelessness and identity theft. And then there are people who have credit scores that include events over which they had no control (fires, for instance). Should they then get a bad score and not get insurance?”

Sandy Praeger, commissioner of insurance in Kansas and head of the National Association of Insurance Commissioners, added that credit scoring can be particularly poor policy when poor scores come from “medical debt, lack of credit card use, or divorce, which can put someone in a compromised financial situation.”

“And hits on credit scores should not be used against someone (in insurance rating),” she said.

States’ Role in Risk Management

Underwriting was not the only topic of discussion, however.

The commissioners — three of whom were from coastal areas — also agreed that individual states should take a more active role in helping to reduce the risk insurers face from natural catastrophes.

Scott Richardson, insurance commissioner of South Carolina, said that states should work on improving building codes and mitigation and grant programs to help insureds lessen their risks.

“We have to do something about exposure,” he said. “We can’t let another $2 trillion in construction get built on the coast without doing something about this.”

Burnes, who recently sat on a Massachusetts’ legislative committee looking at coastal insurance relief in the Bay State, agreed, saying there “needs to be a more comprehensive approach to how we deal with the consequences.”

Government, she said, should provide a financial mechanism to “backstop private industry” in case of a major catastrophe.

Citing the two natural disasters that hit Kansas last year, Praeger praised the insurance industry’s response to the first one, a severe tornado which hit Greensburg, Kan., in May 2007, and had some words of caution about the second one, in June 2007, because much of the damage occurred after heavy rains.

Praeger said the June 2007 flooding in the southeastern portion of Kansas posed a different dilemma because most of the insured losses resulted from flooding, and few Kansas homeowners and businesses in the affected areas had flood coverage.

“Many people don’t understand that their homeowners insurance policies don’t provide flood coverage, no matter how much we try to educate them to that fact,” she said.

Pointing to the U.S. House of Representatives’ vote last year to create National Flood Insurance Program policies that would cover policyholders for both flood and wind-related losses, Richardson, a former insurance agent and broker, said, “I’m just shocked that anyone would want to do anything with the federal flood insurance program without fixing it first,” pointing to the NFIP’s poor financial condition and complaints about the accuracy of its flood maps.