Usage-based insurance (UBI) has become something of a catch-all term for several of advances in auto insurance. The original concept is simple enough: your insurance premiums should be based on how much you drive. Obviously, if you drive twice as much as someone else, then you’re twice as likely to get into an accident (all other things being equal) compared to them, meaning you should pay a higher premium. Similarly, if you don’t drive that much, why should you be paying the same amount as someone who drives every day through an intense commute. Within the industry, this is also called Pay-As-You-Drive (PAYD).
"Usage-Based Insurance is car insurance based on how and how much you drive your car, instead of on secondary risk factors like marital status, zip code, or credit score."
But usage-based insurance can mean more than just how often you use your car but how you... use it. That’s why terms like behaviour-based or telematics insurance get lumped in with UBI, but this time measuring how safely you drive your car. The way that your car moves can be measured in a straightforward way using a device that plugs into your car (via its on-board diagnostics port), a device that you can stick to your car, a mobile phone app, or a combination of all three. From this, it’s possible to compare the measured performance with well-researched safety thresholds, eventually giving each driver an understanding of areas that they need to improve upon. These areas could be things like braking, accelerating, turning, speeding, distracted driving, or fatigued driving. Within the industry, this is also called Pay-How-You-Drive (PHYD).
Why does UBI matter?
Auto insurance premiums are currently based on an average actuarial risk that is adjusted based on factors that are unique for each driver. These things can include your driving history (usually at last seven years), the type of car you drive, your marital status, where you live, or in some cases, your credit score. While the type of car you drive will directly affect the cost of an insurance claim (and thus the premium you pay), these risk factors are largely circumstantial evidence at best. For example, there is no direct causal link between your marital status and how safe a driver you are, though perhaps there is a statistical correlation.
In fact, when auto insurance was still just a nascent field in 1930, Paul Dorweiler presented a paper at the Casualty Actuarial Society meeting that the following hazards were as worthy of being incorporated into insurance premium: car age, road conditions, traffic density, laws/regulations, driver efficiency, mileage, speed, weather, seasonal use of a car, day/night driving. However, the technology at the time meant it was nearly impossible to measure these hazards at all, let alone effectively. This means that we had to use proxies of risk (credit score, zip code, marital status) instead of primary risk factors when determining insurance premiums.
With advances in technology, both in cars and smartphones, it is now possible to migrate the auto insurance industry back to its roots to focus on what truly matters: how safely one drives their car!