Finance by Phone: When prudence pays

Have you bought and fitted a smoke detector to your home? And what is the connection between home smoke detectors and the cost of your car insurance? The answer is that it is one of many indicators used by the number-crunchers in the insurance industry to try to calculate risks and premiums.

That does not mean that when you next ring round for an insurance quote for your car someone will ask about the fire precautions in your home - it is rather more complicated than that. Barrie Wells, the chief executive of Prospero, a direct-seller of car and home insurance, explains the connection.

"Someone who goes to the trouble of buying and fitting a smoke alarm is a careful person and is likely to be a careful driver, who ought to be a good risk for an insurer. So it is one of many indicators that help to identify the kind of customer we are looking for.

"For example married men under 25 are generally better risks than single men of the same age, and people with higher education are generally safer than those who left school early." But there is a limit to how many questions can be asked on the telephone before quoting for insurance cover. So what is the solution?

The answer lies in your postcode. While many insurers just look at postal area codes, for example E14 or B23, which cover several thousand addresses, Prospero takes the entire code, which may cover just 15 addresses.

"We analyse lots of different kinds of data, not just from the insurance industry but from sources such as household surveys and the lifestyle and marketing questionnaires that millions of people complete, and which ask questions about things like fitting smoke alarms," says Mr Wells.

All of this data is filtered in different ways, and of course can be sorted by postcode, so companies such as Prospero can identify, for example, postcodes with a high percentage of smoke alarms, and therefore, by implication, a high proportion of careful drivers. It is all part of the job of managing risk and maintaining competitive premium rates, a process that operates throughout the year.

Insurance was the first financial service to be sold by telephone, first for cars and then for homes, and in many ways it is the simplest to buy in this way. By the end of the century the industry expects that direct selling will account for more than 50 per cent of motor insurance and 35 per cent of household cover.

Car insurance is based on vehicle, driver and location. For a civil servant aged 40, living in Herefordshire, it can take three phone calls of five minutes or less to obtain competitive quotes for a Nissan Micra that is locked in a garage every night. But it will be a different story for a 24-year-old DJ who leaves a high-performance BMW, with pounds 5,000 CD system, parked on the streets of Notting Hill, London, overnight. Not all insurers will want to quote and there will be wide variations in the premiums for what the industry describes as a non-standard risk.

Privilege, which will quote on the spot for many such risks, highlights three ways in which you can keep premiums down if you are a non-standard risk: fit an approved immobiliser, restrict cover to yourself and possibly one other named driver (usually your partner) and agree to pay the first pounds 250 of any loss or damage (known in the jargon of the industry as the excess).

Household insurance covers two elements - buildings and contents cover. Buildings insurance covers the structure of your home and is required by mortgage lenders. Contents insurance covers your possessions, including everything from beds to televisions; it is not required by lenders.

When you ring insurers to obtain quotes make sure that you are comparing like with like - not just the value of your property but what kind of loss or damage is covered. Household insurance policies cover you for fire and theft, as well as flood or storm damage, and many may include cover for accidents such as broken heirlooms or stained carpets. Some policies will also cover your possessions when they are outside the home, such as having your camera stolen.

Like any other kind of insurance, the more you pay for your household policies, the higher the amount of cover. But it is a nonsense to pay for cover you do not need - the overinsured are just wasting money. By the same token, being underinsured will leave you with a shortfall if you do experience a loss or theft.

Choosing an insurer is not just a question of finding the cheapest. Performance is equally important. It is worth finding out as much as you can about a company before signing up with it to see just how good is its claims experience. Putting it simply, how difficult is it to get it to pay out?

Before you ring around, you need to work out what cover you require and for how much. Buildings insurance should be enough to cover the cost of rebuilding your home, not necessarily its market value which includes, among other things, the value of the land. Contents cover is much more complicated. The simple policies will be for a set amount, say pounds 30,000, which you may think is enough for your household possessions. But there may be a limit for individual items of, say, pounds 1,500. This could easily be breached by expensive stereo or computer equipment, which would then need to be itemised separately.

The most common type of contents policy is "new for old" cover. It will not matter that your ruined carpet is five years old, since the insurance will pay for a new one. The alternative, indemnity policies, pay out only the value of the items lost or damaged so, for instance, you would be paid out for the current value of your old carpet rather than the price of its replacement.