An insurance policy for your car is an important asset. A small payment made every month or annually can cover large expenses in case of an unfortunate event. Most states in America require drivers to hold a valid vehicle insurance policy. The policy provides financial coverage for medical injuries and motor vehicle repairs.
Getting a car insurance policy is not easy. Several factors can define whether or not you get a good premium rate for your car insurance policy, and one of the most important factors out of them is the credit score. Most vehicle owners consider this an unrelated factor when buying an insurance policy. However, for auto insurance companies, your credit score is more than just a number.
What does the credit score signify?
Most vehicle owners believe that the same credit score is used to judge all criteria. However, it is not so. Insurance companies often use credit-based insurance scores (also known as FICO insurance scores) rather than the credit score due to your credit card. The credit card-based score depicts the likelihood of you making a late payment. On the other hand, the credit-based insurance score depicts how likely you are to make a claim.
These scores help the insurance company understand the type of driver you are and place you in one of the categories: a high-risk driver, a low-risk driver or a medium-risk driver. A bad credit-based insurance score means you’re more likely to apply for claims, and therefore, your insurance rate increases. The inverse is also true. Over 95% of insurers use this type of credit score system before deciding insurance rates for their customers.
A credit score is determined on five factors:
- Payment history
- The amount owed
- Length of credit history
- New credit and
- Credit mix
Therefore, when focusing on your credit score, all these factors need to be assessed, not just the debt you have accumulated.
How does a bad credit score affect you?
From the point of view of an insurer, a bad credit score simply means you have applied for loans various times. This may also mean you have poor driving skills and are more likely to file a claim due to an accident. A bad score can have an adverse effect on your insurance policy.
The average annual car insurance rates are $1,829. However, if your credit score is good, your annual car insurance rate can be reduced to as low as $1,508. On the other hand, if your credit score is bad, the amount can increase significantly. The average annual car insurance rate can go as high as $2,940 if your credit-based insurance rates are bad.
A report found that the annual car insurance rate can increase by 30-113%, depending entirely on the credit score. On average, a person with a bad credit score will pay at least $900 (per year) more than a person with a good credit score. This is a significant increase for any American and is reason enough to maintain a good credit score.
How do you maintain your good credit score?
Establish good credit
Credit history is nothing more than the accumulation of the payments you have made in the past. A good credit history shows that you have made all payments to your insurers on time. This includes insurers who provide other non-vehicle insurance policies, including health insurance policies, term insurance policies, etc.
To maintain a good credit history, the practice of making payments on time should be maintained. This will ensure your scores will not slip. Your credit score is influenced by as much as 35% by your credit history. Therefore, even one slip can cause an adverse effect.
Focus on reducing your credit utilization ratio
The credit utilization ratio is the ratio of credit you’re currently using to the credit you’re allowed to use. For example, if you have a credit limit of $10,000 and use $9,000 every month, your credit utilization ratio is 90%. However, if you use only $5,000 every month, your credit utilization ratio is only 50%.
A lower ratio signifies that you are using less of the credit available to you and can supplement your income. This also means you are more trustworthy with credit and can earn a good credit score. This can also reflect in the insurance rates provided to you by the insurers.
Develop a credit history
Developing a credit history is a must. The article has already discussed the importance of having a good credit history. Your credit score is influenced by as much as 15% by your credit history. But if you don’t have a credit history, you can’t have a good score since the national credit reporting agency doesn’t have enough information to give you an appropriate score. This can have an adverse effect on your scores.
Avoid accumulation of debt
Accumulation of debt of any kind – student loans, credit card debt or even property loans – can reduce your credit score. Avoid accumulating debt wherever possible. However, if you have accumulated debt, try to make payments on time and avoid past-due payments.
It is also recommended not to mix multiple credits. An average person has student loans and credit card loans. However, if you accumulate debt from different avenues, it can affect your credit scores by as much as 10%.
Can credit score be improved once it has gone bad?
The answer to this question is not as simple as yes or no. Credit scores depend heavily on your credit history. This means if you defaulted on payments a few years ago, the default might affect you for several years to come. Credit history can be checked for 5-10 years, depending entirely on the nature of the credit score, the type of vehicle you’re trying to insure and the insurance company.
This just goes to show that one missed payment can make a difference for several years. The credit score will continue to be influenced by this bad history for several years, and you may not see a difference in a few months or even a few years.
Last Words
These are the four primary methods that can help you maintain a good credit score. While it is possible to improve your credit score, it can take several years to reverse the damage. During this period, you will most likely be provided high insurance premium rates. Furthermore, even if you have cleared your debt, your credit score may not rise since credit history plays a key role in determining your credit score. Therefore, the best option for any individual is to avoid financial decisions that permanently reduce the credit score.
