The Hidden Costs of Cheap Car Insurance

Would you willingly let your car insurance company play backseat driver every time you hit the road?

Hundreds of thousands of drivers have already invited auto insurance company Progressive (PGR) to ride along. Lured by the prospect of substantial discounts on their car insurance, these drivers are allowing the company to track their driving behavior through its "Snapshot" usage-based program.

Progressive isn't the only company hitching a ride with customers who don't mind their every turn being tracked. (See "Save On Premiums With Pay-As-You-Go Car Insurance" for more.)

Are you really rewarded for good driving?
Progressive claims that its Snapshot program rewards "good drivers" by offering discounts of up to 30%. But a closer look at the driving behaviors they track shows that is not strictly true.

After it's been installed in your car, the Snapshot device collects data about miles driven, the time of day one drives, and braking patterns. While this information may reveal a great deal about the degree of risk a driver imposes on an insurance company, it does not say much about whether someone is a good driver.

To see how this is the case, let's take a closer look at how Progressive uses this data to rank customers as high-, medium-, or low-risk.

• Miles driven: Progressive recommends that drivers not drive more than an average of 30 miles per day (about 11,000 miles annually) if they want to receive a discount. Driving a greater number of miles makes people greater insurance risks. After all, the more people drive, the more likely they are to get into accidents. But mileage alone doesn't make someone a bad driver.
• Driving times: Progressive rewards drivers who are on the road during times that pose lower risks for accidents. For example, it is more likely to reduce rates on customers who do most of their driving in the middle of the day than customers who regularly drive in rush hour traffic. The company is also less likely to decrease rates on those between midnight and 4 a.m. Prospective customers should note, though, that while information about the times of day people drive may indicate their level of risk for accidents, it does not indicate their driving ability.
• Brake patterns: Progressive also rewards drivers who have fewer "hard brakes," (i.e., fewer instances in which they decrease their speed by more than 7 miles per second). While this information can indicate bad driving habits, such as tailgating, braking patterns often have a lot to do with the driving conditions.

So it's not quite accurate to say Progressive's Snapshot program rewards good drivers. Rather, it rewards lower-risk drivers. Good drivers who have long commutes, live in urban areas, or whose schedules require them to drive during high-risk times won't qualify for the discount.

In fact, if that describes your driving patterns, you may end up paying more for your car insurance over time.

The trade-offs
Consumer advocates are concerned that Progressive's Snapshot program will eventually be used to raise rates on customers. And the move toward this outcome may not be straightforward.

Progressive claims that it will not raise rates based on the data gathered through the Snapshot program. However, if lower-risk drivers are earning discounts of up to 30% for their lower-risk behavior, it's likely that Progressive will want to recoup some of the expenses incurred by its higher-risk customers. One way to do this would be to increase the starting rates on customers who do not want to participate in their tracking program and those who do not meet its standards for "good" driving.

Also worth considering is the impact Progressive's Snapshot program will have on the auto insurance industry as a whole. As Progressive reaps the rewards associated with gaining more low-risk customers, other companies will have to make a choice -- either increase rates as the percentage of high-risk drivers in their customer base rises, or implement Progressive's strategy and create increasingly granular insurance offerings to match the risk levels associated with each customer.

So while some drivers may indeed see declining insurance rates, many others will see them rise, through no fault of their own. So before opening your car door and letting your insurer ride along, take a closer look at how the program works, and determine whether the trade-offs are worth the rewards.

Motley Fool contributor M. Joy Hayes, Ph.D. is the principal at ethics consulting firm Courageous Ethics. She doesn't own shares of any of the companies mentioned. Follow @JoyofEthics on Twitter.