FICO Gets Friendly with Medical Delinquencies

By Ryan Dosen

 

Your Fair Isaac Corporation (FICO) score, the all-important and somewhat mysterious numerical representation of your supposed credit risk to lenders, may be about to change for the better. FICO recently announced that it is adjusting some of the criteria it uses for assessing a person’s credit related to existing, but paid accounts, as well as outstanding medical bills.

The National Association of Realtors (NAR) says that the “changes come after a recent Consumer Financial Protection Bureau study, which found that both paid and unpaid medical debts were unfairly penalizing consumers’ credit ratings.”

According to The Wall Street Journal, experts say that these latest score changes “could result in some borrowers receiving credit scores that are as much as 100 points higher.”

 

FICO Score

FICO says that its score “is calculated from several different pieces of credit data in your credit report.” This data is grouped into five weighted categories:

• Payment History (weighted as most important; 35 percent of your FICO score)
• Amounts Owed (30 percent)
• Length of Credit History (15 percent)
• New Credit (10 percent)
• Types of Credit Used (10 percent)

 

FICO Score: Payment History

When making a lending decision, perhaps the single most important piece of information a lender can have is whether you have paid past credit accounts on time. Thus, payment history is the most heavily weighted factor in your FICO score.

 

FICO Score: Amounts Owed

FICO says that “having credit accounts and owing money on them does not necessarily mean you are a high-risk borrower with a low FICO Score. However, when a high percentage of a person’s available credit has already been used, this can indicate that a person is overextended, and is more likely to make some payments late or not at all. Part of the science of scoring is determining how much is too much for a given credit profile.”

Basically, owing money isn’t a bad thing as long as you are on-time with your payments and as long as you haven’t racked up too much debt. It should be noted that FICO also considers the number of accounts that have balances and how many of those accounts are close to being “maxed out.”

 

FICO Score: Length of Credit, New Credit, and Types of Credit

The final 3 factors are important, but not weighted as heavily as the first two. Generally, a longer credit history and a “healthy mix” of credit cards, retail accounts, installment loans, finance company accounts and mortgage accounts will translate to a higher FICO Score.

However, when it comes to credit, like with just about anything, moderation is the key. Lots of new credit generally implies a credit risk; but, FICO says that opening new accounts “responsibly and paying them off on time will raise your FICO Score in the long term” and can help you re-establish a problematic credit history.

 

Changes to FICO’s Treatment of Medical Balances and Paid Accounts

According to this July’s data from Experian, one of the 3 major credit reporting bureaus, about 64.3 million U.S. consumers had a medical collection on their credit report. The Wall Street Journal says that under the current system, “collections can impact credit scores as much as foreclosures and bankruptcies do … (even though) the infractions are often small.”

The Consumer Financial Protection Bureau has been working with lenders to help boost lending without creating more credit risk. The result is that FICO is now introducing a plan aimed at reducing the damage done by overdue medical bills and removing penalties from consumers that have paid off debts that were assigned to collection agencies.

With FICO’s new scoring model, previously-delinquent accounts that have been paid (but not removed from your report) may no longer count against you, helping you dodge up to a 100-point credit bullet. Also, the lower weight attributed to unpaid medical debt could increase some FICO scores by up to 25 points.

A 100-point jump in a FICO score (FICO scores range from a low of 300 to a high of 850) could easily mean thousands of dollars over the life of a car or home loan, and could certainly prove to be the difference between being approved or denied for a loan.

 

Impact on the Housing Industry

NAR president Steve Brown says that “this move will ultimately make a real difference in the lives of millions of Americans, who have been shut out of the housing market or forced to pay higher mortgage interest rates because of flawed credit scores…. Since the housing crash, overly restrictive lending has been the greatest obstacle to home ownership (and) NAR will continue to support efforts to broaden access to credit for qualified home buyers.”

Credit scores have been known to move quickly and in sometimes unpredictable ways. Thankfully, our FICO Scores will be doing their uncomfortable dance at generally higher levels when the new scoring model hits credit bureaus and lenders later this year.

 

— Ryan Dosen manages The Wayne Megill Real Estate Team of Keller Williams Brandywine Valley in West Chester. Contact Ryan for buyer or seller representation or for more perspective on the local and national real estate market by emailing rdosen@megillhomes.com or calling 610-399-0338. Please also visit The Wayne Megill Team blog at www.PAHomesAndRealEstate.com.