Consumer Credit: How Your Credit Report Affects Your Car Insurance Rates

Car-buyers with bad credit get a double-whammy; expensive car financing AND a stiff insurance premium.

Most car-buyers use credit to finance a part of a new set of wheels. If you've been paying your bills on time, the dealer or your bank will give you a good financing package; if your credit report comes back with some red marks, you'll be paying a few bucks more every month.

That's where you would assume the story ends. Problem is, it doesn't - far from it. When you come home you probably get on the phone with your insurance agent to switch coverage to the new car. What you may not know is that your agent pulls your credit report again, offering a premium in line with whatever your credit score is. In other words, reliable households get the sweet deals, while those with bad credit get a double-whammy punishment for not paying the bills on time.

Why is this, you may ask? I already bought the car - what does the insurer care whether I'll make the payments or not? Well, for one thing, the insurer wants you to pay THEIR bill as well. But more importantly, the insurer thinks your credit score reveals a lot about your character. A person with pristine credit tends to be careful with his or her belongings and won't file a claim unless there's a real need for it. In other words, a good, profitable customer for the insurance company.

However, statistics show that someone with bad credit is much more likely to file claims. Furthermore, a person in dire financial straits may be more tempted to commit insurance fraud, arson or just perhaps fudge the claim a little. Either way, the insurance company isn't as interested in having you for a customer - and will charge you more for the privilege of getting in the door with them.

Additionally, some consumer advocates speculate that customers with high credit rating make valuable address lists to sell to third-party affiliates. This theory is based on the insurer's right to sell your information to other companies (unless you actively opt-out.) Well-off people tend to have good credit scores - and they have money to spend, thus making them more valuable to other companies trying to push their products. This theory remains unproven, however.

How much damage does a few missed payments do? It depends on a lot of factors, and the insurance industry is not too eager to spill all the details (as unscrupulous people could try to manipulate the system). However, it's not entirely the same criteria as the "lending" credit score. You can have decent "lending" credit and still get a stiff insurance quote caused by reckless driving. In other words, if you had 3 fender benders and 4 speeding tickets last year, you'll get creamed no matter what. A couple of payment glitches a few years ago with a clean driving record, on the other hand, is no big deal as long as you've been paying on time since then.

If you're stuck with a bad credit rating, your best approach is to make it a priority to catch up on your bills. Your credit score may start improving in as little as 6-12 months, and the longer you keep up the better. To dodge the immediate insurance premium pain, opt for a cheap vehicle and drive carefully. A used $4,000 compact is a lot cheaper to insure than a new $30,000 truck, thus minimizing the effect of the credit score penalty. After a few years of timely bill-payment and careful driving you will be offered substantially better rates and may even qualify for specific discounts.

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