IMPORTANT CHANGES IN CREDIT SCORING MODELS

Some excellent information from Gerri Detweiler at the Garrett Planning Network about changes occurring in FICO scoring models:

Credit Coaching – FICO 9

headshot_gerri

The big news when it comes to credit scores is the announcement of FICO 9 – a new version of the popular FICO scoring models. With FICO 9, there are will be some important changes that could mean higher credit scores for some consumers.

The first, and perhaps most important, change involves collection accounts. According to a recent Urban Institute report, “An alarming 35 percent of people with credit files have debt in collections reported in these files.” With FICO 9, paid collection accounts will be bypassed by score. In other words, consumers get some “credit,” for having resolved these accounts. This is significant because under current FICO models, paying a collection account doesn’t help one’s credit score.

Collection accounts are extremely frustrating for consumers who want to do the right thing and pay their bills off, but feel like “What’s the point?” since their credit scores won’t change if they do. The current system is also exasperating for consumers who wind up with “nuisance” collection account on their credit reports. For example, someone moves and doesn’t realize there was a final utility bill that went unpaid until they are contacted by a debt collector. Or someone who disputes a medical bill but it’s turned over to collections anyway.

Another change with FICO 9 is that medical debt will be treated somewhat differently. Medical debts typically don’t appear on credit reports until they are turned over for collections, so this essentially effects medical collections. According to FICO, a consumer whose credit report lists a medical collection account but is otherwise blemish free could see a score increase of 25 points or so under this new version.

My experiences that most consumers think that happens already, but it doesn’t. They think that medical collections are somehow treated as less important, but all collection accounts are considered negative under FICO’s current models.

The final change involves what are referred to as “thin files,” or people who have very little credit history. FICO says that with FICO 9, they will be able to generate credit scores for more consumers who fall into this category.

It’s worth noting that VantageScore 3, competitor, already ignores paid collection accounts and can score a greater number of consumers with limited credit histories. However, FICO still has the largest market share when it comes to credit scores.

The Catch

Here’s the catch: it could be quite a while before the majority of lenders start using FICO 9, and in some cases they may decide never to use it. Before lenders change the scoring models they use, they test them to see how they perform. If the new version helps the lender make better (i.e. more profitable) lending decisions, it can migrate in that direction. If not, it won’t. In addition, there may be a variety of other reasons – technical, financial, or otherwise – why a lender chooses not to adopt FICO 9. So here’s a case where time will truly tell.

In the meantime, some legislators are proposing alternative solutions to this free market approach. Congresswoman Maxine Waters recently held hearings on credit reporting and is proposing legislation that would remove negative information from credit report sooner (generally in four years instead of seven). And there are still efforts to move the Medical Debt Responsibility Act; legislation that would remove certain paid medical collection accounts from credit reports soon after they are resolved, through the legislative process.

In the meantime, consumers need to understand that a single collection account can drop a credit score by 50, 75, or 100 points or more. So remaining vigilant and trying to avoid letting an account get to this point in the first place is still the best strategy.

Gerri Detweiler
Garrett Credit Coach

The views expressed in this post are those of the author and do not necessarily represent the views of, and should not be attributed to, The Garrett Planning Network, Inc. or any other Garrett members.

“If you want to work the rest of our life, that’s your business.  If not, that’s ours!”

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About Charles Roberts, CFP®

Founder & CEO, Financial Freedom Planners™
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