Usage-Based Insurance: The case for Motor Insurance
Rethinking premium pricing
The idea behind the insurance is that, as long as an insurer knows the average cost and can figure out the chance of different possible expenses, they spread these costs over the pool of people who want to get insured. Consider the pool of 10000 customers, for example, with the insurer having information about one in thousand has a chance of making Rs. 10 lakh expense. Then the insurer can expect to pay out Rs. 1 crore as a payout for a certain period and can price premium of Rs. 1000 per piece plus some fee; the lucky ones pay; the unfortunate ones get paid back. Now to make things complicated, consider two groups (more like good drivers and bad drivers), 10% of people have a one in 100 chance, while 90% have a chance of one in 10,000. Now if you charged people according to their odds, 90% of them would pay Rs. 100 as opposed to Rs. 1,000, while the remaining 10% would pay Rs. 10,000. When everyone is paying the same rate, ‘safe’ folks are subsidizing ‘unsafe’ folks. That’s how traditional insurance works as long as no one figures out their group. But things change as soon as individuals become aware.
Now consider Mr. Rao (hypothetically), 37, thinks of himself as a safe and responsible driver. He feels that he has been charged more premiums for his car insurance policy even though he is exposed to less risk, unlike the people from his age group, some of whom might have more risk embracing behavior. This seems unfair to Mr. Rao, who might think of not ensuring his vehicle and just complying with mandatory insurance.
In an actual study about gauging the reasons for not insuring the vehicles, it was observed that the concern for the cost of auto insurance premiums was widespread among all the respondents. Interestingly this study divided the uninsured into two groups: pure uninsured (who does not own insurance for their vehicle) and hybrid uninsured (who owns uninsured vehicle and insured vehicle) and states that even for low-cost low coverage policy 6% of the respondents expressed that even though they are safe drivers they do not receive the benefit. 71% of hybrid uninsured expressed that the policies do not consider the usage of their vehicle and prefer policy according to their needs.
The customer must see value in the protection that the insurance company is providing for an insurance policy to be appealing to them or in simpler terms, the perceived value of the protection being supplied should, in an ideal world, correspond to the premium that the consumer is willing to pay.
Idea of Usage-based Insurance
That forms the basis for usage-based insurance, a recent innovation of motor insurers. The concept is basically about redefining the way the premium for the insurance is decided. The premium for the policyholder’s vehicle insurance would be decided based on monitoring and tracking of parameters which would define the extent of usage of vehicle and driving behavior. This is done with the help of telematics, which can be understood as monitoring every detail of vehicle such as position, speed, distance, harsh braking or driving, fuel consumption, engine data, etc. and sending it over on real-time basis to management software to analyze the data regarding behavior. This can also be done with the help of Internet-of-things (IoT). All of this is used to arrive at customized premium price for policyholders. Unlike this, the traditionally motor insurance premium is being calculated by guideline issued by Tariff Advisory Committee (TAC) based on factors such as Insured’s Declared Value (IDV) of the vehicle, cubic capacity, geographical zones, age of the vehicle, and so on, without considering usage of the vehicle, which determines the extent of risk.
Thus, the system charges insurance premiums based on their specific usage and behavior patterns. The lower the risk associated with the user and, as a result, the lower the premium that must be paid for that duration, incentivizing customers who actively embrace safety in their actions, the safer the user behavior. The inverse likewise turns out as expected for usage-based insurance policies, where the customer could be disincentivised with higher charges for high risk behavior.
There have been several Usage-Based Insurance variations:
1. Pay-As-You-Drive: The PAYD depends on the customer’s driving. The policy price can be calculated by the driven distance or the time (hours, days) along with traditional parameters. PAYD rationalizes the data collection process by logging the mileage automatically through telematics technology such as onboard devices; it requires credible mileage data. The data is most often transferred wirelessly and used by the insurance company to determine individual premiums based on driving distances.
2. Pay-How-You-Drive: The PHYD model uses the motivation for safer driving for pricing calculation based on the driver’s safety score. These parameters used for score calculations are driving behavior data related to, for example, acceleration, braking, speeding, cornering, and lane changing.
Regulatory Steps for Usage-based Insurance in India
Insurance Regulatory Development Authority of India (IRDAI) introduced a regulatory sandbox in July 2019 to trail Usage-based Insurance in India with a main goal of fostering the growth of insurance sector by providing flexibility to general insurance companies dealing with regulatory requirements and protecting the consumer’s interest. IRDAI received over 8 PAYD programs. Bajaj Allianz General Insurance files one such program based on smartphone technology. Another smartphone based PAYD program, SWITCH, was filled by Edelweiss General Insurance.
On 5th July 2022, IRDAI officially released a notification enforcing usage-based insurance products in India. Products such as PAYD and PHYD can now be provided by Indian motor Insurers as add-ons to the basic own damage policy covers. This notification also stated that the consumers can have a single policy for multiple vehicles.
Following is the complete list of India Motor Insurers who are providing Usage-Based Insurance variations –
Changing Scenarios
Most vehicle insurance companies are relying on the behavioral approach to design the product of motor insurance and arrive at premium pricing. Companies are adding value for customers by moving towards loss prevention in addition to identifying opportunities in the insurance process and improving the processes. With the technology in the center insurers are trying to influence the behavior of the customers and innovative automobile companies are not behind the race.
Big U.S. Auto giants like Tesla is offering insurance using real-time driving behavior for its currently available to all Model S, Model 3, Model X and Model Y owners in selected U.S. states, with more states coming in the future. Tesla Insurance does not require an additional device to be in your car, in contrast to other telematics or usage-based insurance plans. Tesla evaluates the premium for your vehicle based on certain characteristics within the cars. Tesla Insurance price is calculated based on the car you drive, the address you supply, the number of miles you travel, the level of coverage you choose, and the car’s monthly Safety Score. The higher your Safety score, the lower premium can be availed to you. This Safety Score is an assessment of driving behavior based on several metrics called Safety Factors, thus influencing the driver’s behavior.
Parting Thoughts
All the innovations in motor insurance have technology at their core and technology is leading the frontier of all the stages of value chain. With Usage-based Insurance, reworking on the premium pricing has become possible, the benefits of which can be estimated for individual as well as for society. This might influence customers to adopt a more non-mandatory motor insurance policy which would be according to their needs as they perceive value would be higher than the benefits from existing policies. Since the incentives are directly linked to driver’s behavior, this would induce more safe behavior driving practices, would help to solve traffic congestion problems, would be steps towards conserving energy and henceforth the environmental issues.
Nevertheless, Usage-based Insurance is dependent on the data of the customer while driving the car which is nudging towards the data privacy problems intimidating the modern world. As the data privacy laws, which is trapped between the sensitivity and extent of implementation and redressal, are still under refinement, especially in countries like India, this poses the threat for customers. Also, in todays changing times where majority of population is preferring to reduce their travel owing to pandemics and changing nature of work culture, reduction of mobility and hence the effects on the motor insurance can be seen as threat for motor insurance companies.
References –
1. Bordoff & Noel, July 2008; https://www.brookings.edu/research/pay-as-you-drive-auto-insurance-a-simple-way-to-reduce-driving-related-harms-and-increase-equity/
2. Hunstad, Characteristics of Uninsured Motorist; https://www.insurance.ca.gov/0400-news/0200-studies-reports/0600-research-studies/auto-policy-studies/upload/Characteristics-of-Uninsured-Motorist.pdf
3. Geotab; https://www.geotab.com/blog/what-is-telematics/
4. Orsoni, 2022; https://www.ptolemus.com/insight/motor-insurance-is-being-disrupted-as-usage-based-insurance-in-india-is-officially-approved/
5. Tesla; https://www.tesla.com/support/insurance/real-time-insurance
