Updated on 10.23.14

The Rise of Black Box Car Insurance

Teen driver

Devices that track driving behavior can help lower your premiums — and keep tabs on teens. Photo: State Farm

Car insurance companies have always looked for ways to maximize profits by minimizing their risk. Insurance companies make money by taking in more in premiums than they pay out in claims. It’s hard to raise premiums in a competitive market, so reducing risk is the easiest way for them to become more profitable.

Making money would be a lot easier for insurance companies if they weren’t in competition with one another. All they would need to do is tally up how much they expect to pay out in claims based on their own history, add in a profit margin, divide it all by their number of policyholders, and voila: The insurance company makes a tidy profit.

Sadly — for insurance companies, anyway — there is competition. Further complicating things for them are strict state regulations that ensure consumers get what they pay for, including having legitimate claims paid. That leaves insurance companies with only one option to stay both competitive and profitable: Do a better job of evaluating and charging for risk than the other guy.

Calculated Risks

Car insurance companies have been looking for better ways to calculate risk since the invention of the automobile. But for decades, car insurance companies have based customer premiums on the same handful of factors: the age and gender of the driver, the make and model of the car, and the driver’s record.

Underwriting, which is the process insurers use to calculate car insurance premiums, uses past experience (claims paid) for different criteria to come up with an estimate of what they can expect from a new customer. Each insurance company uses their own formulas to calculate their rates, which is why there prices vary from one company to another. Generally, though, they all start with the same criteria.

Age

Young drivers pay a higher premium than older drivers for several reasons, starting with experience. As with anything else, the more you practice something, the better you get. This is why more experienced drivers get into fewer accidents. Younger drivers also tend to take more risks than their older counterparts, and this is especially true of young men.

Gender

Men are more aggressive drivers than women. Men tend to drive faster and take more risks — such as weaving in and out of traffic — than women. By every measure, under identical circumstances, male drivers will accelerate more quickly and brake harder than women. These and other traits of aggressive driving put men at greater risk of not just getting into an accident, but causing more damage when they do.

Make and Model

The car you drive affects your premium in two ways. The first concerns the size of potential claims. This is because the more expensive the car, the more costly it will be to repair the damage done to it. The second relates to how the car is driven. A sports car like my Mustang 5.0 goes much faster than my wife’s Honda. That, when combined with the age and gender of the driver, can mean that if an accident does occur, it will likely happen at a higher speed — and cause more damage to property and people.

Driving Record

The best indicator of future outcomes is past performance. That is the logic used to determine which team is favored in a game and in predicting how someone will drive in the future. That means if you have had an accident that was at least partly your fault, chances are greater that you will have another. The same is true of traffic violations such as speeding or running a red light. If you did it before, you’re more likely to do it again, and that makes you a bigger risk.

Credit Score

In the past 10 years a growing number of insurance companies have started using credit scores as one of the factors they use to determine car insurance rates. Whether the concept was started by insurers looking for a competitive edge or by credit bureaus looking for a way to boost sales is unclear. Car insurance companies don’t look at full credit reports. They are only interested in your three digit FICO score, which is on a scale from 300-850.

The premise is that your credit score indicates your sense of responsibility. The higher your score, the more responsible you are. They believe that people who pay their bills on time are more responsible and file fewer and smaller claims than people with lower scores. Companies using credit scores are confident that the theory is correct — so much so that it’s possible a driver with a ticket and a minor accident and a high FICO score will pay a lower rate than someone with a low credit score and a clean driving record.

Pay As You Go

There can be three parts of a car insurance policy, of which two — liability and collision — usually require your car to be moving to generate a claim. Liability pays for damage you cause to other cars, property, or people if you are at fault. Collision pays for damage to your car, regardless of whose fault it is. Insurance companies have always recognized that the less someone drives, the lower their chances are of generating a liability or collision claim.

Ever eager to find ways to attract lower risk drivers (people who drive less), insurance companies began offering pay as you go rates that are based on how much you drive.

It works like this: Take 32-year-old identical twins John and Philip. They drive the same make and model car, their driving records are both spotless, and their credit scores are identical. They share the same insurance company. The only difference is that John pays about 15 percent less than his brother for the same coverage. That’s because John only puts about 8,000 miles a year on his car while Philip travels at least 15,000 miles a year.

Pay-as-you-go, mileage-based rates, while still available from a handful of companies, have morphed into something more.

Telemetrics

As a middle-aged man who drives a very fast car very fast, I confess that sometimes I feel like I’m flying a fighter jet and the only thing missing is the black box. Airplane black boxes record information such as altitude, speed, and navigational heading. When accessed after a plane crash, black boxes provide investigators with clues about what might have gone wrong. The information contributes to changes in aircraft design or pilot training that are implemented in the future to make air travel safer.

Telemetric devices are the automotive equivalent of an airplane’s black box. These handy dandy devices are not entirely new. Most cars made in the last five years are equipped with a sort of black box that is about the same size as couple of packs of cigarettes. They are activated if you brake hard and are part of your car’s airbag system. They record information starting from the moment you jam on the brakes. They measure your speed and rate of deceleration and whether an impact occurs. Information contained on them may make its way into court for the first time as part of the class action suit against General Motors.

For the past dozen years or so parents of newly minted teen drivers have had the ability to install real black boxes in the family car. They serve as a way of ensuring that young drivers follow the rules. These devices monitor acceleration, deceleration, average speed, top speed, and cornering. They use GPS to keep track of where and when teens are driving. Some models are equipped with warning beeps that alert young drivers to bad habits. The warning systems remind junior not just to slow down, but that he’s being monitored.

Insurers responding to competitive pressures and the early success of pay as you go premiums began offering their own take on black box technology to customers. Customers are invited to install the devices with the promise of discounts of up to 50 percent. The most aggressively marketed of these is Snapshot from Progressive. All of the devices connect to a port on your car’s steering column. Snapshot tracks how often you brake hard, how many miles you drive each day, and how often you drive between midnight and 4 AM. Some Snapshot devices use GPS to track location, which Progressive says is just for research purposes.

Progressive is not alone in marketing telemetric devices to customers. Travelers Insurance’s IntelliDrive and State Farm’s In-Drive, as well as others, are making major inroads with customers in search of lower rates. In-Drive tracks braking, acceleration, turns, time of day, and speeds over 80 mph. IntelliDrive logs braking and acceleration, average speed, and uses GPS to log where and when the car is driven. As an incentive to get customers to sign up for the devices, insurers are offering discounts of up to 15% right out of the gate and deeper cuts down the road.

The sign-up discounts are not permanent. Initial discounts remain in place between 30 days and six months, at which point a permanent renewal rate is established. Permanent rates are based on data collected by the monitoring devices. Discounts are subject to continued monitoring by the plug-in modules. Each of the systems allows customers to monitor their own performance by viewing online statistics about their driving. Some even offer email alerts for changes or behaviors that fall outside the norm. Some are marketing the monitoring and reporting features as a way for users to kill two birds with one stone: paying less for insurance and monitoring young drivers.

So far, all of the companies that have rolled out telemetric devices insist that customers will not be penalized with higher premiums if the devices report bad habits. Insurers maintain that the worst-case scenario for consumers will be not receiving a discount. But if history is any guide, it may be only a matter of time before insurers change their minds.

What’s more, it may not be long before the devices are required for coverage. Customers could then be rated on their driving habits and both rewarded with discounts or penalized by higher rates as a way to further improve bottom lines in the insurance industry.

Big Brother

Since the 1970s consumers have grown more and more comfortable with behavior-based pricing. They have also grown accustomed to corporations having intimate knowledge of their spending habits.

Credit card companies base consumer interest rates on credit reports. These are little more than report cards on past behavior. Credit card issuers also use spending habits to predict who might be interested in marketing to us and make our names available to “partners” for a price. In other words, they sell our information, either about us as individuals or in the form of metadata.

Some of the telemetric devices in use already have GPS built into them. Progressive says that some of its devices may have GPS but the information they collect is not used to determine rates. State Farm takes a similar position on the GPS functionality of their device, saying that the information collected is only “to help ensure safety and security.” Travelers actively markets IntelliDrive’s GPS tracking as a positive feature for parents of teen drivers, who can can find out not only how their cars are being driven but where.

Privacy advocates question how long it will be before insurers seek to capitalize on information that is potentially worth billions of dollars.

Whether the information gathered is sold based on the behavior of individuals or packaged as metadata, its value is incalculable. It would enable marketers to further hone their demographic data, combining spending habits and other information gleaned from credit card companies and credit bureaus with information about where and when we go about our daily business.

That information could be used to create anything from next-generation roadside advertisements tailored to different commuters at different times to direct mail and email based on our habits.

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