Credit can be dangerous when used improperly. Mortgages can become delinquent, auto loans can showcase faux wealth, and credit card debt usage can spiral out of control. For these reasons and more, some consumers avoid credit like the plague. They pay cash for everything and never look back. Unfortunately, we live in an economy where no credit also brings consequences.
Having no credit history may affect your finances more than you think. In addition to lenders, your credit report is used by other entities such as auto insurers to help determine your premiums. In fact, most insurance companies across the nation use credit-based insurance scores, along with other factors, to predict your accident potential since research shows drivers with lower credit scores tend to incur more car insurance losses and higher claims payouts. Massachusetts, Hawaii, and California are the only states where this practice is banned.
To better understand how much credit affects insurance premiums, WalletHub recently obtained quotes from the five largest auto insurance providers in the United States for two hypothetical consumers. Both consumers are identical except one has excellent credit while the other has no credit. The base case is a 37-year-old single male driver who commutes 20 miles each each way, five days per week, and drives a 2009 Honda Accord. He drives a total of 16,000 miles a year.
WalletHub finds that some insurers rely on credit data more than others. Farmers Insurance relies the most on credit data as premiums fluctuated 62% between the driver with excellent credit and the driver with no credit. However, Farmers is the second most transparent insurer in regard to letting consumers know credit data is used to set premiums, behind only Progressive. GEICO appears to rely on credit data the least, displaying a 32% premium fluctuation between the two hypothetical consumers.
On average, the consumer with no credit pays an extra 49% for car insurance. Nonetheless, as the map below shows, rates vary significantly between states. Michigan ranks the worst with an average difference of 115%, followed by South Carolina and Maine at 87% and 70%, respectively.
Why is Michigan so expensive? The state is no stranger to high insurance premiums. Michigan is a no-fault auto insurance state, so each insurance company compensates its own policyholders for the cost of injuries no matter who’s at fault in the accident. It’s also the only state with unlimited lifetime personal injury protection. The average personal injury claim in Michigan more than doubled from $20,000 in 2003 to $46,000 in 2013. Over a lifetime, medical expenses for severely injured drivers could easily total over a million dollars. Uninsured motorists are also particularly prevalent in Detroit. Insurance companies adjust premiums to account for these conditions.
If you currently don’t have any credit, there are several ways to build credit without being attached to a mortgage or car loan. Credit cards or secured credit cards are relatively simple tools. The latter must be funded with a security deposit, but unlike prepaid cards, a secured credit card gives you a credit line. Make sure to check with the issuer that they report the credit activity to credit bureaus so it helps your credit history. You may also build credit by becoming an authorized user or having someone cosign on an unsecured account. Most importantly, make sure to pay all bills on time and pay off your credit cards in full every month.
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