FICO 2.0: What You Need to Know About the New Credit Score Changes
We all know the saying: To err is human, but to forgive, divine.
Unfortunately, there hasn’t traditionally been a whole lot of forgiveness in the world of credit. Those oh-so-human mistakes we’ve made when it comes to missing debt payments can leave a blemish on our credit reports for years—and significantly lower our credit scores.
Now, though, it looks like borrowers’ mea culpas are being heard. Fair Isaac Corporation, the company that created the FICO credit score, recently announced that it was making some major changes to its calculations that could give a reprieve to those haunted by ghosts of credit mistakes past.
It’s good news for borrowers—but could it be bad for the economy? Here are a few ways the FICO changes will affect us all.
Pro: Settled late payments will no longer count against you. In the past, if you failed to pay a bill and it went into collections, the ding could stay on your credit report for up to seven years and lower your score by as much as 100 points. Now, Fair Isaac says that if those bills were paid off or settled with a collection agency, it will no longer include that record in its calculations.
Pro: Medical debt carries less weight. A medical emergency is one of the biggest culprits that throw Americans’ finances out of whack. In fact, more than half of debt-collection activity comes from medical bills, reports the Wall Street Journal.
The Consumer Financial Protection Bureau has criticized credit models in the past for putting too much weight on medical bills, saying it unfairly punished people for costs that were sometimes out of their control. Indeed, unpaid medical bills plague a large number of Americans: Research shows that about 75 million people have problems paying their medical debt.
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Con: It puts lenders at greater risk. Fair Isaac says its new credit score reporting was based in part on research done to determine how likely borrowers with a good credit record—with the exception of settled collections—were to repay their debts. But it still stands to reason that with less-stringent standards come more risk for lenders. After all, if a borrower declares bankruptcy, lenders could kiss those unpaid balances goodbye—and the losses could be absorbed not only by the banks, but also by their customers.
Pro or Con? It widens the door to obtaining loans. Wiping at least some of the slate clean will enable many consumers to get access to loans, or at least to loans with better interest rates. That’s a good thing, right? Not necessarily, say some market experts.
After the recession, lending restrictions tightened, allowing only those with stellar credit scores and reports to be approved for things like mortgages and auto loans. With the average household carrying more than $15,000 in credit card debt and $33,000 in student loans, loosening the standards could merely add to the $11.7 trillion in total consumer debt Americans carry.
Of course, one could argue that won’t be an issue if we all can use credit a little more responsibly. Here are some ways that using credit can actually help you—and what to do if you want to fix a mistake that could be bringing your score down.