There is a new trend in the insurance industry to go to a rating method called “Rating by Peril”. Upon implementation, this has caused many clients homeowner’s insurance premium to change drastically, both positively and negatively, from what they were paying for years. This appears to the average consumer to be a spontaneous price drop (or worse, price increase) that has no bearing on reality. We’ll take a look at what this premium determination method is and why it is actually precisely based in reality.
(The picture above shows how happy the insurance geeks were developing this rating method!)
First, let’s talk about insurance pricing. Who do insurers want to insure? Insurance companies are for-profit businesses and are in it to make money. Therefore, they want to write insurance for people who pay large premiums and have no claims. This is fairly common sense. If they bring in a lot of money but don’t have to spend a lot of money, they will have larger profits and happy shareholders (policyholder’s for mutual insurance companies). How do you get more of these types of customers if you are an insurance company? Offer this type of consumer the best pricing. This is a slight over generalization as some companies specialize in different types of homeowner’s insurance consumers. There are carriers that want to write people that have a poor claims history, have a high chance of wind losses, etc. These are just few and far between.
So, if insurance companies want to write people with large premiums that have no losses, they need to be able to predict the consumers that will A) have large premiums and B) have no losses. The first part is relatively simple. The more stuff you have, the more insurance you need to protect your stuff. Therefore, insurance companies like to insure people that have at least one home, multiple cars and preferably a business that can all be written with the same company. The second part is more complicated and that’s where rating by peril comes in.
Rating by peril breaks down each type of loss you can have, i.e. wind, hail, fire, water and theft, into categories. One of our insurance companies has 12 different categories. They then look at the geographic area you live in and what types of claims have typically occurred there and whether that frequency is increasing or decreasing. Let’s say you live in Cleveland, OH. Your rate for the peril of “Theft” will likely be higher than someone who lives in Port Clinton, OH. It makes sense. There are more thefts, per capita, in Cleveland than in Port Clinton. Now let’s say you compare your “Wind” peril in Cleveland, OH to that of someone in Oklahoma City, Oklahoma. Considering the amount of tornadoes Oklahoma gets, it is safe to say the rate in Oklahoma is much higher, for “Wind”, than it is in Ohio where we have less tornadoes.
This can start to get even more impressive when you realize the advantages that the enormous amount of data that insurance companies have access to can give you. They can dial down to specific zip codes, neighborhoods, blocks or even the sides of one street and see statistical differences between the types of claims and frequency of claims your side of the street suffers compared to your neighbor’s side of the street. That’s right. You can have a separate “Water” peril rate from your next door neighbor. Pretty crazy right?
Now, what does this have to do with YOUR homeowner’s insurance? Everything. The insurance company will try to set the rates to be the most competitive price for consumers that have lots of stuff and little chance of claims. If you are one of those consumers they are targeting, you will get lower premiums. If you are not, your premiums will be higher. However, if your rates increase or are higher than your neighbor, does that mean you are a bad insurance consumer (risk, in industry speak). NO! It just means that statistically you have a higher chance of having an insurance claim. This is based on statistics that take into account a large number of homes and people in your block, your neighborhood, your city, your state and even the USA. You may pay a higher rate than your neighbor and never have an insurance claim. You may pay a lower rate than your neighbor and then have 3 insurance claims in 5 years. It is not a perfect system but it can be incredibly accurate.
This is also only one of the many factors that are used to determine your homeowner’s insurance premium. Insurance companies also use your loss history, your age, your credit score, your payment history, and many other factors. You may have a low premium according to the rating by peril method and have a high premium because your credit score is low, you are young and you have had a number of late payments.
In summary, it is important to keep in mind that insurance is based on statistics. Without statistics and large data sets, insurance companies would just be guessing and they would fail constantly. They are continuing to adapt daily and determine the premium that is right for YOU. However, it is an imperfect system and to some degree you will get lumped in with your fellow insurance consumers and not pay the price that is most appropriate for you.
If you still have questions on “Rating by Peril” or would like to discuss your homeowners insurance, please contact the Frederick Agency today at 419-732-3171. We are your insurance professionals and here to help you navigate the world of insurance.
By Brennan Madison