How Lenders Incorporate Alternative Data Into Your Credit Score


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Credit scores are changing. For some consumers, this could be a blessing.

First, the basics: Your credit score is used by institutions, including banks, credit card issuers, car dealerships, and others, to determine whether or not to lend you money. , and if so, at what interest rate. The higher your score, the better the offers you are likely to get.

There are two main providers of credit scores in the United States. A company called FICO produces the dominant metric most lenders use, which is between 300 and 850. That’s probably what comes to mind when you think of a credit score. Its main competitor is VantageScore, created by the Big Three US credit bureaus, Experian, Equifax and TransUnion.

The two scores have different models and the lenders use different versions. But they primarily take into account a person’s payment history, credit utilization rate, length of credit history, types of credit accounts, and recent credit account openings. Payments and balances on credit cards, mortgages, student loans, car loans, etc. are all reported to the credit bureaus.

Factors that influence scores are changing for many reasons, one being that consumer advocates have many complaints against FICO and VantageScore. Some say it is unfair that there are basically only two private rating models that have so much influence over Americans’ finances; others say the system is inherently biased against people with low incomes and those without generational wealth. Thus, in recent years there has been a tendency to incorporate alternative data into credit score calculations.

Alternative data is anything that doesn’t belong to the traditional credit reporting system, like rent, cell phone, and utility payments, or cash flow from a bank account. Many banks already base their lending decisions on a combination of someone’s FICO score and some of the other factors listed above, and the Wall Street Journal reports that others are starting to create their own scores.

For its part, FICO introduced the UltraFICO score a few years ago, which takes into account a person’s banking activity to determine their solvency. There’s also Experian Boost, which takes into account mobile phone and utility payments.

The inclusion of alternative data in loan decisions could potentially open up credit opportunities for tens of millions of Americans with poor or no credit histories, said Chi Chi Wu, an attorney at the National Consumer Law Center. FICO takes mortgage payments into account, which benefits homeowners. Why not the rents too?

“The consumer should be the one who decides whether to allow a lender to access bank account information or whether rent data is reported,” Wu said.

At the same time, problems could arise. Wu points to the Covid pandemic, in which millions of Americans were months behind on housing payments, as proof of how including on-time rent payments on credit reports could hurt turn for consumers. Reporting utility payments could also hurt the credit history of low-income people.

“A lot of low-income households could fall 30 or 60 days behind on their heating bills in the winter, but they know they can catch up in April,” she says. Being two or three months late in payment would hurt their scores when adding utility payments was supposed to help them.

But for now, FICO is too entrenched in the financial system to be completely replaced, Wu says. Some banks and lenders may have their own custom lending models, but most are still FICO-based, so it’s worth doing. keep an eye on.

Below are a few articles with tips from CNBC Make It on how to improve your FICO credit score:

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