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How do car insurance companies set a price for you?

The way that car insurance companies price their policies can seem like a bit of a mystery. How does it work?

The way that car insurance companies price their policies can seem like a bit of a mystery. Insurance companies use a wide variety of factors to try and understand what level of risk you represent for them. These range from the more obvious factors such as your location, to the less obvious such as your occupation. The more questions car insurance companies ask you, the more able they are to assess what sort of risk you represent and then price your policy accordingly.

Nearly all insurance companies work using a basic ‘risk price’, which has been set by a group of people who are employed to compute insurance risks and premiums. Then, using the factors described above, the insurance company can amend the premium to reflect your specific level of risk. For example, if you live in a suburban area you could expect to receive a discount on your premium, whereas if you’d made a claim recently your premium would very likely be increased.

Further to this, most insurance companies will target a specific demographic with their insurance policies. For example some companies may target older drivers with years of no claims, while others may aim their policies at young drivers. By doing this, the insurance companies can fine-tune their policies and premiums based on their years of experience covering these types of people. This is why you may find that a company that doesn’t target your demographic will charge you a much higher price than one that does. To cover their lack of knowledge and the increased risk you represent to them, they will need to charge you a higher premium for cover.

I have often thought that insurance companies could make this process more transparent so that customers understood why prices are so different but giving up that mystery would impact the ability to maximise profit.