Auto insurance writers lost an estimated $16 billion of premium revenues in 2004 due to inaccuracies in rating information, according to a new study published by Quality Planning Corp. in San Francisco.
The figure represents an increase of $800 million over 2003, and about 9.8 percent of the $163 billion revenue recognized by personal auto insurance premiums industrywide.
QPC Chief Executive Officer Daniel Finnegan said that for the average auto insurer, each 1 percent of rating error losses translates into a 20 percent reduction in profitability.
QPC's Premium Rating Error report presents the results of audits of more than 16 million private passenger auto policies from 18 major carriers.
The report highlights how different categories of rating errors contribute to the overall premium rating error, and distinguishes between vehicle rating errors (mileage, usage, type of vehicle and location) and driver rating errors (who actually drives the vehicle, driving experience and driving record).
In 2003, it was driver rating factors that contributed the most to rating error. In 2004, vehicle rating factors proved the most problematic for auto insurers, rising from $6.1 billion to $7 billion.
The report indicates that flaws in rated commuting distance, annual mileage, vehicle usage and rated territory were the primary contributors to the $900 million increase. All of these rating errors have the potential to be reduced if an auto insurer focuses underwriting activities on gathering, validating and maintaining accurate rating data, according to QPC.
Insurance companies could also do better analyses of their data, the report said.
In the life of an auto policy, the report noted, change is a constant as household composition fluctuates with children growing up and obtaining drivers' licenses and policyholders changing jobs and acquiring and selling cars.
On average, 52 percent of existing policies have a change in driver or vehicle every year, and 50 percent of the remaining policies have some other meaningful change, the report said.
"It is difficult for auto insurers to keep up with these changes. And it is an accepted insurance industry fact that there is some level of premium 'leakage'--premium revenue that is lost due to misrepresentation of facts, lifestyle changes or outright fraud by policyholders," Mr. Finnegan said.
Insurance companies know that not all consumers are entirely forthcoming with accurate rating information, intentionally or not, when they apply for insurance, so they build this risk into their calculations when they determine premium pricing.
"The numbers in the report show that auto insurers could better analyze rating data to identify and correct this incorrect information," Mr. Finnegan said.
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