Figuring Out FICO
The new change in the way credit scores are calculated, an adjustment designed to help more consumers qualify for better loan rates, may have less impact than those who created those adjustments might think.
In addition, credit unions that do plan to adjust their underwriting criteria based on the new standards may take longer than expected to implement the changes.
There is nothing inherently wrong with the changes to FICO score calibration announced Aug. 7, credit union lending officials said. But the new standards designed to ease pressures on consumer credit is something many credit unions already do when evaluating member loans.
Formerly known as Fair Isaac Corp., FICO's ratings are used to determine credit scores for nearly 90% of the country's consumer lending decisions. The new FICO scores give less weight to unpaid medical bills when assessing consumer creditworthiness.
The San Jose, Calif., firm also said the new scores won't unfairly penalize borrowers who have had their bills settled with a collection agency. Company officials said the new criteria will be implemented this fall.
As of July, 64.3 million consumers showed some level of unpaid medical debt on their credit reports, according to the credit bureau Experian. Of the 106.5 million consumers contacted by collection agencies, 9.4 million had no balance left on their accounts, and would not be penalized under the new requirements.
That may be good news for consumers and their financial institutions, but in the case of some credit unions such considerations have been part and parcel of their internal underwriting policies even prior to the official edict.
“I do not have all of the technical details in how the FICO score algorithms will change, but I think in the big picture, it doesn't impact us that much,” said Bill Vogeney, EVP and chief lending officer for the $4 billion Ent Federal Credit Union in Colorado Springs, Colo. “When we manually underwrite a consumer loan one of the things we have worked hard at is making sure we overlook reasonable medical collection accounts.”
Ent FCU currently has a portfolio of $2.5 billion in loans split almost equally between mortgage loans and all other consumer loans combined, said Vogeney, chair of the CUNA Lending Council executive committee.
“A consumer with a 620 FICO score with multiple collections is more likely to get some additional consideration from us,” Vogeney said. “I think that would impact about 5% to 10% of our members.”
Amy Perez, assistant vice president of retail lending for the $2 billion Grow Financial Federal Credit Union in Tampa, Fla., also believes most credit unions take medical debt and member performance into account when making loan decisions. Further, whatever changes are made will not take place until the credit union reviews and changes its credit scoring model.
“The decision to change to a new scoring model is extremely slow moving throughout our industry,” Perez says. “We validate our scoring models against our lending portfolio every other year; therefore, it will likely be some time before we consider a change.”
Grow Financial has a loan portfolio of $1.6 billion, about 60% of which is comprised of consumer loans, Perez said. The credit union generates $40 million to $50 million per month in consumer loans, many of which are made with internal underwriting standards that already mirror the new FICO guidance.
“At Grow, we weigh medical and paid collections less heavily in our overall decision,” Perez said. “If we were to move to this model immediately, it would likely be more predictive of the way we are underwriting today.”
The change in the FICO score calibration comes in the wake of a May 20 CFPB report that said consumer creditworthiness may be undervalued by as much as 10 points for borrowers who show medical debt on their credit scores. The same ratings system also undervalues a borrower's creditworthiness after settling the medical debt, an oversight that can devalue consumer credit reports by up to 22 points.
The CFPB research report also found shortcomings in the FICO score calculation for consumers whose debt went to collection agencies. Both categories were addressed in the recent FICO score recalibrations.
“Getting sick or injured can put all sorts of burdens on a family, including unexpected medical costs. Those costs should not be compounded by overly penalizing a consumer's credit score,” CFPB Director Richard Cordray said at the report's release. “Given the role that credit scores play in consumers’ lives, it's important that they predict the creditworthiness of a consumer as precisely as possible.”
Vogeney and Perez laud the new standards, but agree that many credit unions have such practices in process, and those that don't may take some time to implement them depending on which credit scoring model they’re using. Perez also cautions that credit scores alone should not be the sole factor in determining member creditworthiness.
“If a change needs to be made to a scoring model to make it more predictive of actual borrower risk, then it should be made,” Perez said. “But our borrowers are more than their credit scores, which is why we have a team of highly trained underwriters who are able to see past the score to the bigger picture. We pride ourselves on being able to serve the underserved and help our members who may have not received help anywhere else.”