Auto Insurance

Consumer Groups Applaud Missouri Commissioner for Banning Price Optimization

Washington, D.C. – Missouri Insurance Commissioner John Huff issued an official bulletin to insurance companies to disclose any use of so-called “price optimization” and highlighted the state’s prohibition on any use of pricing techniques unrelated to risk, such as price elasticity of demand.  According to the bulletin:

Missouri law generally requires that base rates and rating classes be based on policyholder characteristics specifically related to an insurer’s expected losses, expenses, and/or policyholder risk. Insurers should carefully review the rating standards and requirements set forth under Missouri law … to ensure their compliance. Insurers are responsible for any model or program they utilize in the development of rates and the resulting rates should not be unfairly discriminatory in violation of Missouri law. Additionally, Missouri law prohibits the use of rates that are excessive or inadequate.

The language of the Bulletin is somewhat unclear as to whether the intent is to ban use of price optimization to move rates charged to consumers away from risk-based levels, but the Department of Insurance press release makes clear that companies must end its use.  The release states that “Price Optimization violates Missouri law” and that it is a “prohibited rating practice.”

In recent years, insurance companies began to use “price optimization” to raise customers’ premiums based on individual shopping habits and perceived “price elasticity of demand,” which is a measurement of a consumer’s tolerance for price changes and can also reflect their level of access to other choices. Price optimization aims to determine how much insurers can increase rates for each individual customer beyond what is appropriate based on his or her risk profile.

“Most Americans are required by law to buy auto insurance and by their mortgage company to buy homeowners insurance, and it is terribly unfair and entirely illegal for insurance companies to vary premiums based on whether or not they are statistically likely to shop around,” said J. Robert Hunter, Director of Insurance for CFA and former Texas Insurance Commissioner.  “It is the obligation of Insurance Commissioners to protect consumers from this kind of price gouging, and we applaud Commissioner Huff for his action.”

In addition to the clear prohibition of the use of price optimization, CFA urges Commissioner Huff and all state insurance commissioners to explicitly bar the use of price optimization in underwriting as well. Over the past 20 years, insurers have blurred the line between underwriting (accepting or rejecting an applicant) and pricing in an effort to avoid regulatory and public scrutiny over rating practices. CFA and CEJ have communicated with insurance regulators that effective consumer protection demands stopping the use of price optimization for rating and underwriting since both are part of the pricing calculation for insurers.  The groups have shown regulators that third party vendors of price optimization software have begun promoting the use of these unfairly discriminatory techniques for underwriting purposes as well as in the rating and pricing of insurance policies.

According to Hunter, “In addition to the prohibition Commissioner Huff has issued, we urge him and all Commissioners to ban the use of price optimization completely for pricing and not just in rate filings. The District of Columbia Bulletin on price optimization does that and should be used as a model.”

The bulletin issued by the DC Department of Insurance, Securities and Banking can be downloaded here.

According to the consumer groups, price optimization marks a radical departure from the actuarial practice of pricing insurance premiums according to the risk of loss posed by the policyholder. The purpose of price optimization is to extract as much profit as possible from policyholders who are often required to purchase insurance policies.

“Price optimization by insurers is Big Data run amok and simply price gouging by a fancy name. Consumers are being punished for activities and circumstances unrelated to risk and without any disclosure or transparency by insurers,” said Birny Birnbaum, Executive Director of CEJ. “The state actions by 18 Insurance Commissioners are the first steps in returning insurance practices to the foundation of pricing insurance based on risk of loss.”

Missouri is the 18th jurisdiction to notify insurers that price optimization violates state insurance statutes that require cost-based pricing and prohibit unfair discrimination in setting insurance premiums. Maryland, California, Ohio, Florida, Vermont, Washington, Indiana, Pennsylvania, Maine, Washington, D.C., Rhode Island, Montana, Delaware, Minnesota, Colorado, Connecticut, and Alaska have previously issued notices to insurers with the same message as the Missouri bulletin: utilizing non-risk related consumer characteristics to set insurance prices is illegal.

Contact: J. Robert Hunter, 703-528-0062; Birny Birnbaum, 512-784-7663

The Consumer Federation of America is a national organization of more than 250 nonprofit consumer groups that was founded in 1968 to advance the consumer interest through research, advocacy, and education.

The Center for Economic Justice is a non-profit organization that works to increase the availability, affordability and accessibility of insurance, credit, utilities, and other economic goods and services for low income and minority consumers.