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CALIFORNIA PAY-AS-YOU-DRIVE STILL FACES A MAJOR OBSTACLE
 
On October 15 the California Office of Administrative Law (OAL) approved the Pay-as-You-Drive (PAYD) regulations proposed by the California Department of Insurance (CDI).  These regulations allow auto insurers to implement systems for verifying the annual mileage incurred by each of its policyholders.  Insurers currently rely upon estimated annual mileage.  The theory behind the regulations is that if drivers know that their insurer is verifying the annual mileage, and that higher mileage results in higher insurance premiums, they will have an incentive to reduce their driving in order to keep their premiums down. 

In a somewhat unusual move the Department requested and OAL approved an early effective date for the regulations.  The new regulations took effect immediately.  New regulations usually go into effect 30 days after approval by OAL.  The early effective date, however, will have little impact upon when, or if, insurers actually offer PAYD programs.  
 
Implementation of a PAYD program is voluntary.  There will be no PAYD programs at all unless insurers voluntarily choose to develop them.  And there is a major regulatory issue that must be resolved before any insurer is likely to develop a PAYD program.  Unless the Department of Insurance changes its practices about reviewing and approving  auto insurance programs, insurers will either ignore the PAYD regulations, or implement  them very slowly.   While this is a very technical issue, if it is not addressed the PAYD regulations could be completely ineffective. 
 
A little background is required to understand the issue.  Under California's insurance price control system, which applies to private passenger auto insurance, an insurer's auto insurance program is divided into two components - the "base rate" and the "class plan".  The base rate determines the total revenue generated by the insurer's auto insurance program.  Base rate can be thought of as the average revenue per policy.  Any change in the base rate requires the review and approval of the CDI.  The rules governing this review are contained in Title 10 of the California Code of Regulations, sections 2641.1 through 2648.4. 
 
But of course different auto insurance policies have different prices, depending upon the risk.  All other things being equal, a 40 year old woman will pay less than an 18 year old man; a policyholder with a clean driving record will pay less than one with a history of accidents and moving violations.  To determine what any specific driver pays in California, the insurer uses a "class plan".  A class plan is a matrix of  adjustments to the base rate based upon statistical characteristics relating to risk.  It determines how the base rate will be adjusted to determine the premium paid by a specific driver.  Like base rates, any change to a private passenger auto class plan is subject to review and approval of CDI.  The rules governing class plan review are contained in Title 10 of the California Code of Regulations, sections 2632.1 through 2632.19. 
 
In order to create a PAYD program, an insurer will need to develop a new class plan and submit it for CDI's review and approval.  This is where the problem will arise.  Since 2007 CDI has required that any insurer applying for a change to its class plan must also submit its base rate to CDI for review and approval.  CDI can, and frequently does, insist that the insurer accept a lower base rate than the insurer requested.
 
The rule requiring class plan changes to be accompanied by a review of the base rate is an "underground regulation" since it was never formally adopted pursuant to the CA Administrative Procedure Act, but it is being enforced by CDI nevertheless.  This underground regulation can be found in the CDI's instruction for filing a class plan application, which is located on the CDI web site at http://www.insurance.ca.gov/0250-insurers/0800-rate-filings/upload/Class_Plan_Instructions-2.pdf. 
 
It is entirely possible for an insurer to change its class plan without changing its base rate.  This is called a "revenue neutral" class plan change.  Prior to 2007 CDI routinely accepted revenue neutral class plan changes without reviewing the associated base rate.  Under its current underground regulation, however, CDI no longer permits this.  The class plan filing instructions specify that "[a] rate application is required whether the class plan is revenue neutral or not."  If an insurer wants to change its class plan, as it must to implement a PAYD program, it must also subject its base rate to CDI scrutiny. 
 
Insurers are reluctant to subject their base rates to CDI scrutiny without an exceptionally strong reason to do so.  They fear that CDI will order them to accept a base rate they consider to be too low. If CDI wants to encourage insurers to propose PAYD programs, it will change its current practice and return to the practice that prevailed before 2007- it will accept applications for revenue neutral class plan changes without requiring review of the base rate.  If they don't, we should expect insurers to implement Pay as You Drive programs, if at all, at a glacial pace.  The risk of having CDI make a bad decision with respect to an insurer's base rate is just too great to expect insurers to take the chance merely to pursue the PAYD option. 
 
Since the rule requiring an insurer to submit a rate application with any change in its class plan is an underground regulation, rather than a properly-adopted regulation, CDI can eliminate it with the stroke of a pen.  The Department understands the problem caused by this underground regulation and there is good reason to hope that it will fix it.
 
For more information about this issue, please contact William Gausewitz at 916.447.4044 or by emailing him at WGausewitz@mrllp.com.