American Academy of Actuaries Automobile Insurance Subcommittee

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American Academy of ActuariesAmerican Academy of ActuariesAutomobile Insurance SubcommitteeAutomobile Insurance Subcommittee

Review of:Review of:Pay As You Drive InsurancePay As You Drive Insurance

Technical AnalysisTechnical Analysis

Patrick CrowePatrick Crowe

May 19, 2003May 19, 2003

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Conclusions:

1. Concept would require extensive study and the investment of capital to develop and implement this marketing concept

2. In a free market, it is probably best left up to each insurance company to determine whether or not to allocate capital to experiment with new concepts

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Conclusions, continued

3. Each risk enterprise must separately evaluate the cost, feasibility, consumer acceptance, and rate of return from such an investment in light of their specific individual needs

4. The regulatory environment varies by jurisdiction and is very much involved in this process

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Position:

Rating plans should be developed in accordance with Actuarial Standards of Practice, specifically Actuarial Standard of Practice No. 12 concerning Risk Classification and the Risk Classification Statement of Principles.

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Standard of Practice #12

5.1 Methods to Demonstrate Cost Differences – A risk classification system is equitable if material differences in costs for risk characteristics are appropriately reflected in the rate.

5.3 Objectivity – A risk classification system should use objective characteristics to differentiate risks. A characteristic is considered objective if it is based on specifically determinable facts.

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Standard of Practice #12

5.4 Practicality and Cost Effectiveness – A balance is required between precision and the expense of administering a risk classification system.

5.10 Data – Relevant data should be verifiable and examined for reliability. Standard statistical tests should be applied when appropriate and necessary.

Structuring Pay-As-You-Drive Structuring Pay-As-You-Drive Automobile InsuranceAutomobile Insurance

By Ed CoeU.S. Environmental Protection Agency

May 19, 2003May 19, 2003

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EPA and Automobile Insurance?EPA and Automobile Insurance?

EPA developing voluntary measures to reduce emissions of Greenhouse Gases (GHG) and air pollutants– Pay-As-You-Drive (PAYD) Automobile Insurance

Initiative is one of a suite of voluntary programs designed for this purpose

PAYD Automobile Insurance could encourage less driving

Benefits of less driving– Reduced emissions of GHG and air pollutants– Less road congestion– Less exposure on road, fewer accidents/claims

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EPA’s Role in PAYD InitiativeEPA’s Role in PAYD Initiative

Education Development of Outreach Materials

– PAYD literature search– Brochures– Quarterly newsletter

Promote PAYD activities at the federal, state, and local levels Development of a “Brand” (similar to “Energy Star”) is

underway – used to identify environmentally friendly products, such as PAYD insurance

Voluntary Agreements with insurance companies, states (air quality offices, insurance commissioners), and organizations (actuarial, insurance associations, environmental, consumer)

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OverviewOverview

Implementation Issues OptionsPutting it all together – what a PAYD insurance

program might look like

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Implementation IssuesImplementation Issues

How will vehicle travel be tracked? How will premiums be structured?How will consumers pay? And how often?

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Options for Tracking Options for Tracking Vehicle Travel Vehicle Travel

Option 1: Odometer Audits– Manual reading of vehicle odometer

Option 2: On-Going Vehicle Tracking Technology– Global Positioning Systems (GPS) or– Global Locating Systems (GLS)

Option 3: Radio Frequency Identification Devices– Transmits odometer data electronically

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Tracking Option 1 (1-2):Tracking Option 1 (1-2):Odometer AuditsOdometer Audits

Manual reading of the odometer Could be performed by:

– Motor vehicle inspection facilities (state-operated or certified service station)

– Other approved vehicle service facilities (e.g., Jiffy Lube)

Transmission of information:– Auditor sends mileage information via email,

phone, fax, etc., or– Consumer sends copy of statement to insurance

company

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Option 1 (2-2): Option 1 (2-2): Odometer Audits: ProsOdometer Audits: Pros

Pros– No need to purchase technology– Likely could be conducted during required annual

inspections or routine service– Odometer fraud is difficult and subject to criminal

prosecution– Fewer privacy concerns

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Option 1 (2-2): Option 1 (2-2): Odometer Audits: ConsOdometer Audits: Cons

Cons– Many states do not require annual inspections– Need to make arrangements for service stations to

transmit data– Possible consumer burden if require initial audit at

start of new policy– Need to pro-rate or reconcile audits that are not

conducted at same time each year– Possibility of fraud if consumers send in odometer

reading reports themselves

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Tracking Option 2 (1-4): Tracking Option 2 (1-4): GPS or GLSGPS or GLS

GPS/GLS unit in policyholder’s vehicle tracks mileage Data sent to insurance company

– Collect by automated cell-phone transmission– Collect physically on RAM cards

Many vehicles already contain the technology (e.g., On-Star system); other consumers could pay to have the system added.

Consumer pays on-going fee for the service. However, allows for other technology-based services (LoJack, emergency notification, route-finding)

Can track where, when, and how long a vehicle is driven. Allows for more detailed pricing– By road location – By time of day

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Option 2 (2-4): GPS TechnologyOption 2 (2-4): GPS Technology(e.g. GA Tech Atlanta Pilot Project)(e.g. GA Tech Atlanta Pilot Project)

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Option 2 (3-4): Option 2 (3-4): Equipment InstallationEquipment Installation

Location selection:Low profileBox and wiring out of sightNo interference with drivingProvide for connections & airflow

Interior locations:Under the rear seatUnder the front passenger seat Under the driver seatIn the trunkBehind rear seat in an SUV

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Option 2 (4-4):Option 2 (4-4):GPS/GLS: Pros and ConsGPS/GLS: Pros and Cons

Pros:– Reduces effort for the consumer - no need to think about

when to get odometer audit and report information– Insurance company can easily track detailed mileage– Consumers could potentially download mileage information

from Internet or receive more detailed reports on driving patterns

Cons– More costly for consumers to install technology – partially

offsets cost savings from PAYD insurance– Insurance company needs to set up system to collect data– Privacy concerns / confidentiality of information– Costs of switching technology to another vehicle

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Tracking Option 3 (1-2):Tracking Option 3 (1-2):Radio Frequency ID DevicesRadio Frequency ID Devices

A tag or chip connected to an odometer sensor transmits current odometer readings and vehicle identification information to a central location

Only tracks the odometer, not location of vehicle Could be designed to transmit once per week or per

month, or other intervals

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Option 3 (2-2): Radio Frequency Option 3 (2-2): Radio Frequency ID: Pros and ConsID: Pros and Cons

Pros:– Less expensive than GPS technology– Reduces privacy concerns

Cons– Still requires consumers to install technology – Still requires insurance company to set up system

to collect data

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Options for Rate StructureOptions for Rate Structure

Issue: How much of premium is variable?Option 1: Premium totally on per-mile basis

– Might have a “minimum miles” componentOption 2: Part fixed and part variable (e.g., $100

fixed, remainder based on mileage)

Issue: What is the rate?Option 1: Same per-mile charge always in effect for

an individual consumer (rate varies among consumers based on other risk factors)

Option 2: Per-mile charge varies by location, time of day (if using GPS/GLS technology)

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Options for PaymentOptions for Payment

Option 1: Pre-payment with end-of- term credit/refundOption 2: Mileage billing

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Payment Option 1:Payment Option 1:Pre-Pay with Credit/RefundPre-Pay with Credit/Refund

Pay standard premium at beginning of term (based on average mileage, say 12,000 miles)

Receive credit/refund at end of term for unused miles

Would work well with annual odometer audits, but could be used with technology options

Ensures drivers do not run out of milesWill entail some administrative cost to insurance

company to process credit/refund – could apply toward next period’s premium

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Payment Option 2:Payment Option 2:Mileage BillingMileage Billing

Consumer pays baseline fee for a minimum number of miles (e.g., 2,000 miles) to cover insurance company costs or pays cost for expected mileage

Fee guarantees coverage during billing period Insurance company bills consumer during each billing period

for miles actually driven during the period

Would work well for monthly billing using vehicle tracking technologies

Provides direct signal to consumer about vehicle usage, like a telephone bill

Could charge a penalty if consumer does not pre-pay for actual miles traveled

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Billing/Statement PeriodsBilling/Statement Periods

Frequency that consumers receive bills or credit/refund Annually:

– Best if an odometer audit system is used– Might not provide sufficient feedback to consumers to have

a large effect on driving behavior– Potentially fewer insurance company administrative costs

Monthly/Quarterly:– Gives consumers a better understanding of their driving

– a greater incentive to reduce driving– Potentially greater insurance company administrative cost– Without GPS or other transmitters, consumers would need

frequent odometer audits

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Putting it All Together:Putting it All Together:ExamplesExamples

Example 1– Annual odometer reading with credit/refund

Example 2– Radio-frequency ID device tracking, semi-annual

prepaymentExample 3

– GPS tracking with variable rates based on time and location, monthly billing

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PAYD Example 1PAYD Example 1

Annual odometer reading, credit/refund at end of term ABC Insurance Company Customer, Kate Smith

– Kate purchases a new vehicle in February and selects PAYD insurance. Based on her age, driving record, and vehicle, credit/refund rate is $0.08 per mile if under 10,000 miles per year.

– Initial odometer audit performed at the dealer where she purchased the vehicle shows 30 miles on vehicle.

– Kate pays two semi-annual premiums of $500 ($1,000 per yr), just as in her regular plan.

– Next February, Kate brings her vehicle in for its annual inspection. New vehicle mileage – 8,530 miles – is recorded and sent to ABC.

– ABC calculates her credit/refund at $120 (10,000 miles - 8,500 miles = 1,500 miles x $0.08 per mile)

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Radio-frequency ID tracking with pre-paymentXYZ Insurance Company Customer, Tim Brown

– Goes into authorized center or has insurance representative install ID vehicle device

– Based on his driving record, he is given a rate of $0.10 per mile.

– Tim pre-pays a semi-annual premium for $600 for 6,000 miles.

– Tim drives 4,000 miles in 6 month period. Mileage information is transmitted to XYZ automatically.

– XYZ sends Tim a credit/refund of $200 (2,000 miles x $0.10 per mile)

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GPS tracking with variable rates based on time of travel, monthly billing

Acme Insurance Company Customer, John Jones– John pays $200 at beginning of term to cover cost of GPS

technology. He sets up billing so that bills are automatically paid through direct debit from his checking account each month.

– Based on his driving record, his charge varies from $0.05 to $0.12 per mile, depending on time of day.

– GPS transmits mileage and time of day information to Acme. John regularly checks his mileage balance on-line.

– At the end of each month, John receives a statement identifying his mileage by time of day period and cost for period. Bill is paid directly through auto payment.

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ChallengesChallenges

PAYD actuarially more accurate than current practice?

What components of PAYD should be adopted?How can barriers to PAYD be overcome?What other factors need to be considered?

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For More InformationFor More Information

ContactEd CoeU.S. Environmental Protection AgencyOffice of Transportation & Air QualityAriel Rios Bldg (6406J)1200 Pennsylvania Ave NWWashington, DC 20460

phone: 202.564.8994fax: 202.565.2057

email: [email protected]

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Pay-as-you-drive Automobile Insurance:Pay-as-you-drive Automobile Insurance:Regulatory/Technical Issues,Regulatory/Technical Issues,

and Ongoing Research Effortsand Ongoing Research Efforts

Randall Guensler, Ph.D.Randall Guensler, Ph.D.Associate ProfessorAssociate Professor

School of Civil and Environmental EngineeringSchool of Civil and Environmental EngineeringGeorgia Institute of TechnologyGeorgia Institute of [email protected]@ce.gatech.edu

May 19, 2003May 19, 2003

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Vehicle InsuranceVehicle Insurance

Pooled risk (pooled premiums/pooled damages)– Driver skill and performance, transportation

system conditions, vehicle characteristics, and random events

Insurers continually gather and analyze actuarial data– Predict losses for specific groups of drivers– Premium structure: lower cost for low-risk groups

and higher cost for high-risk groups– Demographic variables– Moving violations and previous crashes– Geographic variables (zip codes)– Vehicle usage (recreation, commute, business)

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Driver Behavior and Risk-TakingDriver Behavior and Risk-Taking

Pooled risk … but what is a driver’s “fair share” ?

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Goals of Pay-as-you-Drive Goals of Pay-as-you-Drive (PAYD) Automobile Insurance (PAYD) Automobile Insurance

Further disaggregate risk groups, so that consumers pay for insurance more in proportion to their risk assumed in vehicle use

The more the consumer drives, and the higher the potential for being involved in a collision, the more they will pay for coverage– Mileage driven as a continuous variable– Driving conditions as a potential variable

Under PAYD programs, drivers would pay only for the insurance coverage or service that they needed

The subsidy of higher-risk drivers by other drivers within a risk group can be significantly reduced

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PAYD Outstanding IssuesPAYD Outstanding Issues

Technology and program structure– How do you implement PAYD programs?

Consumer response– Will consumers change their travel behavior under PAYD?

Actuarial justification of rates– How can we demonstrate “fair pricing structures” to states?– Data do not link onroad activity, crash risk, and damage

Uncertain insurance industry impacts– Will insurance companies need to adjust business models?

Privacy concerns– Who will have access to personal data?

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Current State Regulatory Support for Current State Regulatory Support for Pay-as-You-Drive Automobile Pay-as-You-Drive Automobile

Insurance Options Insurance Options

Journal of Insurance Regulation

In Press (2003)

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Georgia Tech Survey Georgia Tech Survey

Survey of State Insurance CommissionersSurvey goals:

– Determine whether state regulations currently prohibit PAYD automobile insurance

– Identify specific requirements that companies will have to meet to obtain approval for PAYD premium structures

43 states participated– Non-participant states generally had smaller

populations

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PAYD Program StructurePAYD Program Structure

Conceptually, a wide variety of potential PAYD program structures and implementation strategies are possible

Premiums could be based upon a variety of factors:– Vehicle type, household driving history, miles per vehicle– Times of day and route selection for vehicle use

Implementation dependencies:– rate structure elements– need for accurate collection of data

– miles driven, routes selected, etc.– means of collecting premiums

– at the gasoline pump, private pre-paid debit accounts, direct credit billing, smart card systems, etc.

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PAYD Legal Status PAYD Legal Status

Legal Status Do not Prohibit PAYD Insurance

Do Not Allow PAYD Insurance

NoResponse

States AZ, AL, CO, FL, GA, ID, IL, IA, KS, KY, MD, ME, MI, NV, OH, OK, OR, PA, SC, SD, TN, TX, UT, VA, WA, WV, WI

AR, CA, DE, IN, LA, MA, MN, MS, MO, NC, ND, NE, NH, NM, NY, WY

AK, CT, DC, HI, MT, NJ, RI, VT

Number of StatesPercent of States

2763%

1637%

8

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Approval Requirements for Approval Requirements for PAYD Premium StructuresPAYD Premium Structures

91% of the responding states require that actuarial data demonstrate that a new pricing structure will be fair and equitable

In making a “fair and equitable” determination, many states assess the number of years of data used– For example, New Mexico would require 3 years of

average mileage information data

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Immediate Approval?Immediate Approval?

Can companies offer cent/mile insurance now, based upon annual fees by group and mileage?

25 useful responses– Yes: 10 (40%)– No: 9 (36%)– Maybe: 6 (24%)

– 3 will require actuarial data– 1 will approve using average miles of the group– 2 will require some new criteria (unspecified)

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Survey ResultsSurvey ResultsImpact on Consumer Equity Impact on Consumer Equity

Literature indicates that PAYD can enhance equityMost states did not have a position

– It was not an issue in their state or they did not have enough information to form an opinion.

Four states indicated potential positive equityOne state indicated no impactOne state indicated negative equity impact

– Their concept of equity focused entirely upon the total amount that a household pays for insurance and not upon whether the premiums are proportional to household driving risk

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Regulatory Barrier ConclusionsRegulatory Barrier Conclusions

PAYD programs can be implemented in a majority of states under current regulations

Most states require a demonstration that the price structure is equitable and transparent

Educating the public and regulatory staff may be an important factor

More than 90 percent of responding states require actuarial data to justify requested rate structures

Insurance companies must determine that PAYD will be worthwhile before they will seek approval

Who goes first?

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PAYD Premium Structure PAYD Premium Structure Data RequirementsData Requirements

Insurance companies currently lack data necessary to directly link actual onroad travel data to loss risk– Fair and equitable PAYD premium structures

Data from instrumented vehicles (vehicles with black boxes for extended periods of time) are needed

The use of electronic monitoring devices is technically feasible and may be the best and most accurate means of implementing fair and equitable PAYD premiums– Security of data and prevention of electronic fraud

need to be addressed

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Ongoing Research Efforts in AtlantaOngoing Research Efforts in Atlanta

Atlanta’s Commuter Choice and Value Pricing Insurance Incentive Program

May 2003 Update

[Slides not Available for Distribution]

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Insurance Company ViewInsurance Company View

Greg HaywardGreg HaywardState Farm Mutual State Farm Mutual

Automobile Insurance CompanyAutomobile Insurance Company

May 19, 2003May 19, 2003

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Insurance companies strive to accurately match rates to risks

More accurate risk assessment must significantly outweigh administrative costs

How much will PAYD add to the expense per policy?

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Mileage is used today, but in broad groups

Current use of mileage is prospective

Difficult and costly to administer current mileage groupings

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What is the relationship between What is the relationship between miles driven and risk? miles driven and risk?

1 2 3 4 5 6 7 8 9 10

Not Linear

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How does the risk relationship How does the risk relationship for miles driven vary?for miles driven vary?

By coverage?By territory?By age of driver?By time of day or year?By type of road?By other classifications?

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Conversion to Rate per MileConversion to Rate per Mile

Is the following actuarially sound?– Indicated rate/average miles driven

No, should do a multivariate analysis using the average miles driven for each rating cell

Availability of such data is a problem

Documents

American Academy of Actuaries Automobile Insurance Subcommittee