Supporters of the NAIC restrictions on price optimization assert that the process is unfair and violates basic unfair practices laws that provide rates cannot be excessive, unfair, or unfairly discriminatory. [5] Proponents of such restrictions also assert that the use of price optimization results in unfairly discriminatory rates for low-income and minority consumers. [6] While the White Paper was being drafted and considered, Consumer Reports ran a Special Report on Auto Insurance (the “Special Report”), which addressed price optimization and raised concerns about the insurance industry’s usage of price optimization in the pricing of auto insurance. [7] Industry supporters of price optimization argue that they are already subject to unfair practice laws and that price optimization results in price stability and limits policyholder disruption.
III. State Activity
At the same time the Task Force was focusing on price optimization, the states were reviewing the issue and, in many instances, took regulatory action. To date, twenty jurisdictions have acted. Maryland was the first state to prohibit the use of price optimization in its Bulletin 14-23 issued on October 31, 2014. [8] The Maryland Bulletin defines price optimization as “the practice of varying rates based on factors other than risk of loss.” [9] The next state to prohibit the use of price optimization was Ohio which, in its Bulletin 2015-01, describes the practice as pricing “based upon factors that are unrelated to risk of loss in order to charge each insured the highest price that the market will bear.” [10] The states that have taken some action to restrict to price optimization are (in chronological order):
• Maryland – Bulletin No. 14-23 (Oct. 31, 2014) [11]
• Ohio – Bulletin No. 2015-01 (Jan. 29, 2015) [12]
• California – Notice Regarding Unfair Discrimination in Rating: Price Optimization, 2/18/15 [13]
• New York – Letters to property/casualty insurers (no bulletin) (Mar. 18, 2015) [14]
• Florida – Informational Memorandum OIR-15-04M (May 14, 2015) [15]
• Virginia – Property and Casualty Filing Guidelines Handbook (June 2015) [16]
• Vermont – Bulletin No. 186 (June 24, 2015) [17]
• Washington – Technical Assistance Advisory 2015-01 (July 9, 2015) [18]
• Indiana – Bulletin No. 219 (July 20, 2015 [19]
• Pennsylvania – Notice 2015-06 (Aug. 22, 2015 [20]
• Maine – Bulletin No. 405 (Aug. 24, 2015) [21]
• District of Columbia – Bulletin 15-IB-06-8/15 [22]
• Rhode Island – Bulletin No. 2015-8 (Sept. 18, 2015) [23]
• Montana – Advisory Memorandum (Sept. 18, 2015) [24]
• Delaware – Bulletin No. 78 (Oct. 1, 2015) [25]
• Colorado – Bulletin No. B-5.36 (Oct. 29, 2015) [26]
• Minnesota- Bulletin No. 2015-3 (Nov. 16, 2015) [27]
• Connecticut – Bulletin No. PC-81 (Dec. 4, 2015) [28]
• Alaska – Bulletin No. B 15-12 (Dec. 8, 2015) [29]
• Missouri – Bulletin No. 16-02 (Jan. 12, 2016) [30]
Some state departments of insurance have indicated they will not take specific action with respect to price optimization. For example, Illinois Acting Director Anne Melissa Dowling stated:
As there is no agreed-upon definition as to what is entailed in the term ‘price optimization,’ we don't plan to address an undefined notion. We are, however, aware of many new and innovative pricing models, responding to the market demand for more individualized pricing. [31]
IV. Litigation and Regulatory Actions
Several class actions have been filed against insurers for the alleged use of price optimization. In Washington, for example, Slocombe v. The Allstate Corp. [32] was filed in February 2015 and alleged that the defendant based its premiums on factors other than risk of accident. The case was voluntarily dismissed by the plaintiffs. A second case, Durham v. The Allstate Corp., [33] was filed by the same law firm and alleged similar facts. The plaintiffs also voluntarily dismissed Durham. In two California cases, Stevenson v. Allstate Ins. Co. [34] and Harris v. Farmers Ins. Exchange, [35] the plaintiffs relied on various statements that appear to have been obtained from the social media pages (primarily LinkedIn) of insurance company employees in order to allege that companies were engaging in price optimization. Plaintiffs in these cases have also asserted that statements and disclosures contained in financial statements confirm insurers’ use of price optimization in personal lines rates. In bothStevenson and Harris, the California Department of Insurance obtained stays of the lawsuits pending proceedings before the California Insurance Commissioner.
To date, no states have taken legislative action to address price optimization. However, at least two jurisdictions to date have taken proactive steps in the rate filing process to help ensure that insurers are not utilizing price optimization. On April 29, 2016, in its publication, “The New Prior Approval Rate Application Process,” [36] the California Department of Insurance added the following statement to its Prior Approval Rate Application:
I declare under penalty of perjury under the laws of the State of California, that the information filed is true, complete, and correct, and that price optimization methods or models have not been used in the development of the final rates for any segment of the filed rating plan.
The Alabama Department recently added the following to its rate application:
Does this filing utilize a Price Optimization or Retention Model/Tool? If yes, provide details under Supporting Documentation.
Other states are likely to take similar actions to ensure that insurers are not violating rules regarding price optimization.
V. Problems for the Industry
Given the actions outlined above and the growing number of states prohibiting the use of price optimization, the insurance industry faces uncertainty as to what extent it may utilize price optimization in rating personal lines insurance. A second problem is the difference in how the industry defines price optimization as opposed to the narrow and inconsistent definitions applied by the states that have addressed the issue to date. Each state that has addressed the issue by bulletin or other publication has varied in how it defines the term “price optimization,” which means that insurers writing personal lines business in numerous states face challenges in understanding what rating and pricing practices are permitted by the regulators and making sure they are in compliance with the patchwork of activity around price optimization. While the issues are being addressed, there is some risk for property and casualty insurers that their practices will be reviewed and they will be the subject of market conduct investigations.
VI. Conclusion
Price optimization has long been used in unregulated industries to set prices and determine the consumer’s likelihood to shop for pricing of a particular product or service. In addition, property and casualty insurers have long used the ratemaking process as a starting point, taking into account more qualitative factors in pricing such as retention and conversion rates, and often temper price increases over a multi-year period to prevent overly burdensome rates. Many in the industry disagree with regulators such as the Ohio Department of Insurance, which asserted in its Bulletin that price optimization “represents a departure from traditional cost-based rating.”[37] On the other side of the equation, many insurers and reinsurers have had rate increases rejected by a state despite actuarial justification for the increase requested. The White Paper acknowledged that no universal definition of price optimization exists and suggested that states consider various steps to address the issue. Insurance companies will need to continue to monitor developments in the price optimization field and act to minimize their risks of not being in compliance with the patchwork of bulletins and other regulatory action that currently exist.