A new way of pricing auto insurance is gaining traction. 

Traditionally, insurance companies have considered a driver’s history when calculating auto insurance premiums, basing prices on factors such as age and record of accidents and traffic tickets.

With this new method, called usage-based insurance or “pay as you drive” and “mile-based insurance,” insurance companies look at what the driver is doing now rather than looking at how the driver has performed in the past. 
All usage-based insurance programs involve the driver reporting information to the insurance company, generally using a technology called “telematics.” A telematics system requires the driver to install a device in the vehicle’s computer port, which wirelessly transmits information about the vehicle’s use to the insurance company.

Some companies may only want the number of miles driven, while others may want that plus information on speed, braking, time of day, and even destinations. The company calculates the driver’s premium based on the information gathered, and those who drive safely or less frequently pay lower premiums than those who do the opposite.

Usage-based insurance offers a number of potential benefits:

  • Careful drivers can reduce their insurance costs
  • Insurance companies can more accurately price their products
  • Consumers have more insurance choices
  • Drivers have an incentive to drive more safely
  • Younger drivers may pay less for insurance than they would otherwise
  • It encourages safer driving
  • It discourages unnecessary driving

However, the system has some important flaws.

  • It may penalize drivers who speed, even though that may be the safest way to drive at a particular time. Conversely, it may reward those who drive too slowly for traffic conditions.
  • A distance-based system may not distinguish between city, highway and rural driving, even though the risks of accidents vary widely among them.
  • It does not capture habits that affect the risk of accidents, such as sudden lane changes without signaling, tail-gating, and talking on the phone.
  • It presents privacy concerns. The insurance company may obtain data on how far, when, how fast, and the destinations where customers drive.

As the various technologies develop and improve, more insurance companies will likely adopt them. They will use the promise of premium discounts to tempt customers to buy them. At some point, usage-based insurance may become the norm for insurance buyers, rather than the exception.

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