FICO credit scores are getting revised starting this Fall, with two big changes being made under pressure from the Consumer Financial Protection Bureau which wants to see more credit extended.
- Unpaid medical bills will be less significant in calculating credit scores
- Past unpaid bills will no longer impact credit scores if they’ve been paid in full or settled.
These are changes that will affect a large portion of the population.
- More than 63 million people have medical collections on their credit reports
- More than 106 million people have collections of some kind on their reports, and nearly 10% of those have been paid in full
All told, the credit scores of 60 to 70 million people could rise with these changes that roll out in the fall.
The change to unpaid medical bill weighting could increase scores up to 25 points. The change to paid off or settled debt could improve scores by up to 100 points.
This could lead to a whole lot more credit being extended — at least as long as lenders do not change credit-worthiness criteria. The open question is whether these changes are simply improvements in predicting who will ultimately pay their bills, or a watering down that will lead to extending credit that ultimately doesn’t get paid.
The less-used Vantage credit scoring system already excludes collection debt that has been paid.
This is all really important for the vast majority of consumers. And if it’s indeed true that these past financial issues aren’t predictive of future financial responsibility, it’s a good thing.
The most important thing is to be honest and reflective with yourself. You need to be meta-rational. The most important question isn’t whether your credit score is high enough to get credit, but how you’ll behave once you get it.
As I wrote in “This Game is Not For You If..” the most important consideration when playing the miles and points game with financial products is:
- Do you pay off your bills in full each month?
- You must not spend more than you otherwise would because you’re using a credit card or justify extra spending “because you need it to get a signup bonus”
If you don’t or can’t pay your credit cards in full, then interest rates are far more important than the points or rebates you’ll earn. If you spend more when you get more credit you’ll be giving up more than you get.
So if your score goes up, you find yourself better-positioned to sign up for credit cards, focus on these two issues when deciding whether you should get cards even if you can.
My general view is that if you satisfy these conditions, you still want to avoid cards if you plan to be in the mortgage market over the coming 1-2 years. In any case, a score of 760 or higher will generally qualify you for the best lending rates. Scores over 760 don’t make you meaningfully better off.
Getting a new card, or generally requesting credit (causing a ‘hard pull’ on your credit) will reduce your credit temporarily by a few points.
But having more available credit can improve your credit. It pushes down your utilization ratio — the amount of total available credit you’re using in a given month. If you spend $3000 on cards (even if you pay off the cards in full) in a month and have $5000 in credit, you’re using 60% of your available credit. If you spend the same amount but have $30,000 in available credit your utilization rate is just 10%. You have credit, don’t use it, and show how responsible you are with credit. That’s far more significant than how many cards you request.
I keep my oldest cards, and no fee cards generally, but even when you cancel a card it stays on your report until it ages off after 7 years — so cancelled cards can increase the average age of your accounts, one factor in your credit score. The more responsible with credit you are over long periods of time improves your score.
Ultimately though the single most important thing you can do for your score is to pay your bills on time, and then not max out your credit. If you’re responsible with credit, your credit score will generally reflect that, and you’ll be deemed a good enough credit risk to be able to get more credit.
Because what financial institutions are most concerned with is whether they’ll get their money back. Even if your primary interest is really big signup bonuses.
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‘All told, the credit scores of 60 to 70 million people could rise with these changes that roll out in the fall.’
More competition in getting approved for new credit cards with big sign up bonuses. 😉
Why does does everyone take for granted the FICO score is an accurate indication of risk? It’s not- it’s bad math based on unproven theory. A millionare with 40 years of perfect ontime payments,no collections with under 10% utilization gets a score of 738. Why? No mortgage,no installment debt and churning CC cards to the tune of over 3 million miles earned in the last 10 years.
Another fine example of the Consumer protection agency helping banks make high risk loans at A paper rates. The worst part is insurance companies use FICO scores to set premium rates because it’s a non discriminatory tool that they use to maximizes premiums.
If credit continues to be loosened then Recession II is coming soon.
As someone in the finance industry who grants credit daily, I can say that FICO is the most misunderstood tool in pricing risk. Consumers don’t realize that there are MANY variations of FICO products that they dont have access to. The only version they can “buy” is the vantage score. Auto lenders use a different scoring model, CC issuers use up to 4 different models, mortgage banks yet another. The list goes on and on. I have seen thousands of bad 700+ FICO customers and lots of 580ish customer who represent a solid credit risk.
Also don’t be fooled or waste money with credit repair companies, we can tell who has “cleaned” up reports. We adjust pricing accordingly.99% of the time those items end up back on the report unless they are truly erroneous, in which case you can legally have them removed at little or no cost to you.
100% of all creditors have an in house proprietary decisioning engine. The data goes in and the decision comes out along with the rates, terms etc.
I actually do see these changes as a net positive.
I don’t have an issue with reducing the impact medical bills have a on credit reports — they’re not eliminating the impact, just reducing it.
I do happen to think that removing paid collection items is a good thing. In fact, it may improve the recovery rates for bad debt and in turn lower the price of credit and/or goods across the board. The current system provides no incentive to pay off a bad, period. I don’t buy the moral arguments about “you owe it, you pay it” all that much. So giving people reasons to pay old debt is a good thing.
Besides, presumably people don’t pay their bills because they don’t have the money. If their circumstances change and they now have money, should they really be held down because of past circumstances?
I wonder if as people’s scores go up, will the cut off scores for loans rise as well, effectively cancelling each other out?
A FICO score is simply the score of the poor. It reflects money what one doesn’t have. If you’re rich, a FICO score is irrelevant.
The only way these changes would result in the extension of more credit is if FICO scores determined credit application approval, which it does NOT. Gary, why do you perpetuate that myth?
Your FICO score may determine your interest rate, but few, if any, credit issuers make lending approval decisions based on FICO scores. The only way the new FICO scoring algorithm could possibly help is if it magically removed those paid collections from your credit report. We all know certain mainstream lenders who have their automated approval system set up to trash-can all applications with paid or unpaid collections, satisfied or unsatisfied judgments and, of course BK.