New Scoring Model Introduced Aug 2009

Everyone knows the FICO score is what determines your ability to get credit for a home or car but did you know that every few years the program used is updated?  The newest version FICO O8  which is set to roll out this month. The end result could mean a better score for people with relatively good credit and impact those with less than perfect credit much harder.

First a history lesson. The original objective when developing the scoring system was to determine how likely a customer was to default and be 90 days late paying their mortgage within a 24 month period. The three top credit scoring agencies: Equifax, TransUnion and Experian deliver to FICO (formerly Fair Issac)  two million consumers data files and they run their algorithms and note the spending trends. They run those same accounts 24months later and note the patterns. The results are used to determine the likelihood of default and are scored within the 300-850 point range that is known as your FICO score. One other interesting fact about the actual scores: The actual scoring range for the first FICO score developed for Trans Union is 397-871, for Experian is 368-839, and for Equifax is 407-829.

The current model used by the top three  agencies tends to be more forgiving when it comes to the amount of credit balance you carry in relation to your total credit net worth. Apparently the new version impacts those with high credit balances on the total amount of credit available more negatively. The result is a lower score for the consumer so keeping your percentage of debt on your credit cards to a max of 30% will help improve your score.

The previous version has also provided a means for people with low credit scores to piggyback on another person’s credit and thereby raise their own score. With the new version there has been some method included to detect if you have added “authorized” users to your account. Those users will not see their scores improved and it could adversely impact the primary user and disqualify them from getting loans altogether. There have been examples of people who have been denied loans regardless of large down payments and high incomes due to having additional “authorized” users on credit cards. Apparently the banks don’t trust those additional users and are fearful of fraud so deny the principle card holder regardless of their good standing.

Another benefit to consumers will be the more forgiving attitude of FICO O8 towards outstanding collections under the $100 amount. So long as the original bank isn’t holding that account, and it has been sent to collections, you could see a boost in your score. We will begin to see a clearer dividing line between those who have a lot of derogatory accounts vs those with fewer derogatory accounts.  Those with fewer accounts will see their score increase and those with a higher number of accounts will be penalized. I can see how this might impact a small business owner who is leveraging his accounts to stay in business. The logic has changed and by spreading out your credit between many accounts with high limits you will effectively lower your score.

According to a press release issued by FICO on July 22nd “FICO 08 Credit Score Available at All Three National Credit Reporting Agencies” by the end of July. Additionally, “five of the seven largest U.S. banks and four of the five largest credit card issuers” have begun testing or using the new score. It will probably take about 12 months to see the new scores impact on consumers so pay attention to which banks are using the new model. It could be the difference  between getting a loan or being denied.

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