FICO Scoring Policies: A Deep Dive
FICO Scoring Policies: A Deep Dive
Employees of the dominant Credit Scoring System…FICO…are required to sign a confidentiality agreement to protect those company policies that they wish to keep secret. In my personal quest to gain as much information as I can about FICO Scoring policies I try to interview ex employees to see how far I can get them to go. I owe it to our community to furnish the most precise and up to date information that I can verify. I used a recent conversation with an ex FICO employee to take a deep dive into FICO scoring policy secrets. I am assuming some knowledge of the subject on the part of my readers for purposes of exploring how each element of a FICO score is created from the raw data furnished by the credit reporting bureaus. As always I am looking to dispel some of the prevalent myths regarding FICO Scoring Policies. FICO 9 is the latest version of the FICO score. It is slightly more lenient though some lenders may be slow to adopt it.
- Payment History: This is the largest and most important category of FICO scoring factors. It represents 35% of your score. It is divided in half with 50% representing your negative history in the form of past delinquencies and 50% representing your positive history of on time payments. The key factors determining how badly your score is hurt by negatives are: Frequency, Severity and Recency.
- Frequency: How often do you let your payments go into the status of a reportable derogatory? Because the CARD ACT mandates a 3 week grace period it is now a total of 51 days after the due date before you are reported as 30 days late.
- Severity: Are the negative entries 30 days, 60 days, 180 days? Major negatives of course include charge offs, liens, judgments, collections, repossessions. These have a variable impact with 90 days or more given particular weight. An aggregate of lower level delinquencies can be worse than 1 major delinquency. For instance 10 30s or 4 60s can be worse than 1 90. Each category is put from a narrative code into a numeric code assigning it to its place in the FICO universe. If a foreclosure was started or the debt was settled for less than the amount owed this code alerts the computer to that. If you have 5 charge offs and one is removed from the record because of age or deletion it dilutes the damage done by the rest.
- Recency: As items get older they are assigned lesser power. Was the offense 6 months ago? 6 years ago? The actual time breaks are in buckets of approximately a year. 12 months-24 months-36 month old entries are getting progressively weaker in the damage they cause. The philosophy behind this is that their predictive value gets less as they age.
- Utilization: This category represents 30% of your score.What % of the available credit that you have are you using? If you have $10,000.00 in available credit and you are using $1,000.00 of it you have a fine utilization rate of 10%. If you are using $9,000.00 of it you are using 90% of it which is not good at all. Your credit card or revolving debt is judged differently than installment debt such as a car loan or a mortgage. Revolving debt to credit ratio is mainly judged in the aggregate. You add up your credit limits and compare it to what you owe to find it. The line item % is of minimal importance so you should pay higher interest rate cards first. You can influence your score pro-actively by paying your credit cards just prior to the monthly closing date. Don’t confuse this date with the due date. Due dates are usually several days between the time you have to pay and the date on which the statement is closed for that month. Be careful about charging things between these 2 dates. If you are about to apply for credit look at the date on which your statement is reconciled each month because this is what is reported to the credit reporting agencies. Each reading of your credit score is actually a snapshot of that moment in time. You can improve that snapshot by improving this ratio of debt to credit that is reported as the amount on the last statement. Each percentage point of change does not necessarily affect your score although it can. The percentages are usually counted in “buckets” by lenders. The cut off point is not always revealed to the public. Indications are they are about 4-5 points apart. FICO’s research shows that a person with 1% utilization is actually a slightly better risk than a person with 0% utilization! You needn’t worry about this but it makes for good cocktail party chatter. Installment debt is treated differently because it is safer since it is usually secured. A home mortgage or even a car payment has a high balance to available credit ratio for years but the creditor has some recourse in the form of repossession or foreclosure in the event of default. In short the loan is not as risky. Since installment loans and mortgages are more stable they are much less meaningful from the negative point of view when they have a high balance. Paying the balance down 20% or more on an installment loan brings no meaningful difference. The Credit Reporting Agency has no memory and doesn’t even know what the balance was last month. FICO’s big picture wants less than a 30% ratio on revolving debt and no more than 80 % on installment debt.
- Average Age of File: FICO refers to this as TIF or Time in file. This category accounts for 15% of your score. It consists of 2 section: the age of your oldest account and the average age of your accounts. People who have handled credit responsibly longer have proven past stability which is predictive of the future. Bear in mind that getting something old off can do more harm than good. A 20 year old account with one late payment 5 years ago is probably doing you more good than harm.
- Mix of Credit: This category represents 10% of your score. By having a good track record on installment debt as well as revolving debt you are demonstrating an ability to handle different types of credit. This will factor in even more if you are going to be judged by one of FICO’s 49 different “Industry Optional Scores”. These are customized scores for different industries. The most well known is your Automobile FICO score which is available only to auto dealers who subscribe to it. It focuses on such matters as repossessions and your history of timely payments on car loans. This score may vary by 15-20 points, + or — from your standard FICO score. Many car dealers will not lend without some installment loan history on record.
- Inquiries: Applications for new credit represent 10% of your total score. One new application has “little or no effect on the average credit score” according to FICO’s own website. More than 1 inquiry indicates that you are in some kind of need right now. Each application affects your score for 1 year although they remain listed for 2 years. 1 day is treated the same as 364 days so aging within that year is of no consequence. On day 366 the inquiry no longer factors into your score. How much your score is affected varies depending on where it was to start but it is usually only a few points. But don’t forget that if the new credit is granted it will lower your average age of accounts and affect your score that way too! Multiple applications for a mortgage or car loan are treated as 1 shopping event within a 45 day period. FICO knows this because there are codes for each inquiry that are hidden from the consumer. This code shows the type of industry and the location of the lender. Lenders frequently use the credit bureau that is considered to have the most complete and accurate information from the area in which the applicant resides. This is why you may find most or all of your inquiries to be made to the same credit reporting agency.
FICO Scoring Policies on Collections
The presence of a collection is considered a major derogotory without regard to the amount of money claimed. It’s the fact that the collection exists at all as opposed to the amount claimed. As it gets older it has less negative impact on your score. Amounts less than $100.00 are not counted. It can be removed and purged from the report at the request of the person that put it there as part of your settlement. There is nothing in the Fair Credit Reporting Act (FCRA) that prevents creditors from doing this. There is no reference to forbidding this practice in the contract that reporting business’s sign with the credit reporting bureaus. Federal Income tax liens are purged upon settlement if the taxpayer requests it. The State of Utah does this for their State income taxes also. Hopefully other states will follow this practice if you ask. My home State of Rhode Island will not do this.
FICO Scoring Policies on Authorized Users
The FICO strategy to combat the “authorized user” abuse is very secretive. A legitimate authorized user will see a substantial increase in their credit score if a close relative or spouse adds them to their card’s privileges when the card has a good track record. FICO claims that the logic in the new FICO 8 and FICO 9 scoring can sniff out fraudulent activity and discount for it when there is no legitimate relationship. FICO scoring policies that would restrict authorized users met a big legal setback last year in Federal Court. The Court said essentially that this strategy many call “piggybacking” cannot be arbitrarily denied to some while given to others. Discrimination would be impossible to avoid. It remains a weak spot in the system as FICO sees it. They have always been sensitive to people gaming the system by selling good credit histories. In some instances this can ripen into no less than bank fraud.
Some collection agencies have come up with a sinister new tactic. The balance is updated monthly with a month’s interest which gives it an entirely new balance. FICO has found nothing illegal about this practice of turning a debt into a perpetually new collection! The addition of interest does not affect the statute of limitations on the debt. This should be low hanging fruit for the new federal watchdog Consumer Financial Protection Agency. Most consumers don’t know that a collection score is kept on them which ranks the likelihood of them paying. If you are ranked modest or high it will lead to more aggressive attempts to collect. For those who rank low Equifax has a system called “Re-Appear.” This amounts to a passive flag on the file which alerts creditors if your situation might have changed. It’s used for skip tracing as well.
The new FICO 9 scoring algorithm is now available to lenders. It disregards paid medical debts and lessens the impact of unpaid medical debts. This policy came in response to pressure from the CFPB and some lawmakers. Look for mortgage lenders to be slow to adopt this based on past history when other new FICO scoring models have been introduced.
Mortgage Late Payments Hurt the Most
If you absolutely must default on something it should probably be a credit card rather than a mortgage. The credit card company might later purge it upon request as a one time good will gesture when you get back to being compliant. Some large credit card issuers will do this once a year for otherwise compliant borrowers. There are many angles to consider. The foreclosure process can take over a year and there are those who benefit by using this money to clean up their credit cards. Remember: credit card companies are more likely to pull the trigger on a law suit than banks. Credit card companies almost always get easy default judgments.
A Bankruptcy Risk Score is a little known score that reveals how likely you are to file for bankruptcy. Although it uses many of the criteria of a credit score it is not available to consumers. Individuals have no way of knowing it unless it is used by a lender to deny them credit. Equifax offers a bankruptcy risk score called the Bankruptcy Navigator Index for sale to its commercial clients. FICO notes that bankruptcy scores can be used in combination with FICO scores to “sharpen” a lender’s risk assessment. The FICO bankruptcy score includes reason codes that can be used in notifying consumer’s about the factors that led to a credit decision. Bankruptcy scoring models stress new applications for credit since borrowers tend to scramble for additional money before finally making the decision to go bankrupt.
Some Forms of Credit More Equal Than Others
There is a “pecking order” when it comes to FICO Scoring Policies weight given to different categories of credit. Mortgages are highest. Then…
- Installment debt (car loan, boat loan etc.)
- Revolving debt (credit cards mainly)
- Store and gas cards (Macy, Walmart, Shell etc.)