FICO SECRETS: Deep Dive
FICO SECRETS: A DEEP DIVE
FICO is short for the Fair Isaac Corporation, by far the largest and most influential credit scoring company in the United States. The FICO scoring system, invented in 1989 recently celebrated its 25th anniversary. FICO dominates the credit scoring industry. It has over 150 US and foreign patents. It is used by more than 90% of lenders. This is not because of a lack of trying by Vantage credit scoring and other systems. Other systems have their merits too but your FICO credit score will be the score that really matters for the foreseeable future. FICO secrets are legendary.
FICO credit scores provide what they call “performance definition” to lenders and other clients who pay for them. They are tuned to measure the probability of a borrower going 90 days or more late in the following 24 months. Most of the factors that are inputted into your FICO scores are a matter of public record. I say scores because there are 12 distinct scoring models in the core system. These 12 models generate approximately 60 different versions of customized FICO scores for sale to different industries. There is company background for the consumer available on their website MyFico.com. More information can be found in their public pronouncements and public relations material. More than 90 % of their system is an open book. They do have their own “secret sauce” meaning FICO secrets which are not revealed. We can infer most of the factors but FICO secrets will always cause a factor of uncertainty in the end. They don’t want to help competitive credit scoring systems. They also claim that knowing all proprietary information will make it too easy for consumers to game the system. Consumers who track their FICO score manage credit more responsibly just like the use of Fit Bit leads to improved physical health. Total disclosure would make the system less reliable for FICO’s paying clients such as banks, credit card companies, auto lenders and more.
Smart people have had some success in reverse engineering the secretive parts of the FICO system. FICO employees are required to sign a confidentiality agreement to protect FICO secrets from competitors and consumers. Despite these policies some information leaks out that isn’t supposed to.
FICO’s credit scoring system is both art and science. The framework used to construct your credit score consists of the most sophisticated mathematical modeling you are likely to see anywhere. If you are not an MIT or CalTech graduate you will get lost reading one of their FICO Scorecards memorandums. Think I’m kidding? Are you comfortable discussing terms such as:
- Robust modeling
- Dirty data
- Data distortions
- Amelioration of selective bias
- Fitting Objective Function
- Range Divergence
- Score scaling
- Variable binning
If these are the kinds of terms you regularly drop into your cocktail party conversations then you might consider applying for a lucrative position at the FICO credit scoring giant. The rest of us need something more down to earth that we can grasp. We want to increase our ability to get and keep a super prime FICO score. Super prime means 785 or above for FICO 8. A perfect score is not necessary or attainable for 99% of consumers. A 780 score is as good as it ever needs to be to get the best available rates on home mortgages. 760 will do just fine on auto loans.
The 60 or so customized scores that FICO promotes on its website can be further fine tuned and customized according to the customer’s desire. The scoring process starts by examining the consumer’s credit history and arranging the key components into “”bins” for better or worse. Have a public record such as a bankruptcy? That’s 1 bin. The number of accounts is another bin. The age of the oldest account another. The average age of accounts another. If you have had a recent serious delinquency such as 60 days late, that’s another. And of course charge offs, collections and repossessions are isolated for analysis within the whole picture that will ultimately comprise the score.
Judgments and tax liens are no longer reported to credit reporting agencies due to more stringent requirements for verification under the National Consumer Assistance Plan (NCAP) of July 2017. Judgments and tax liens almost never contain enough recent data to be verifiable. There is no change in reporting policy regarding Bankruptcy.
FICO bins interlock in complicated ways. The characteristics of the borrowers in the bins have been carefully analyzed using data history that determines how likely the individual borrower is to default on his loans. The other occupants of your different bins have similar borrowing characteristics, history and habits. A typical FICO Scorecards model may consist of 10 bins that look like this.
- Public records or bankruptcy
- Serious delinquencies, late payments, collections, charge offs, repossessions
- Only 1 credit account (very thin file)
- Only 2 credit accounts (thin file)
- Only 3 credit accounts
- Under 2 years for oldest account
- 2-5 years for oldest account
- 5-12 years for oldest account
- 12-19 years for oldest account
- 20 years or more for oldest account
Now imagine a network of lines crossing from one bin to another. The numbers generated are analyzed by FICO’s computer, made into FICO Scorecards and we have a score!
The average consumer never realizes why his score jumped or dipped without apparent reason. He has sometimes hit a scoring threshold of which he was unaware. His oldest account may have just become 6 years old. A charge off may have fallen off the record after 7 years. That scoring threshold meant nothing to the consumer but it was of great interest to the FICO computer. You don’t see slow upticks in your score as your accounts age. The benefits of older accounts only accrue when their age hits certain markers. You may also lose age points when older closed accounts drop off after 10 years from closure.
FICO revamps its scoring system every few years as needed. The latest version called FICO 9 was implemented in 2014. Lenders have been slow to implement FICO 9 due to the high costs of upgrading their systems. FICO 9 disregards paid medical debts and lessens the impact of unpaid medical debts. It further refines “thin file” treatment. It factors in non-traditional trade lines when reported in order to “leverage a more comprehensive view of a consumer’s credit history”. Most important of all it ignores paid debt collector claims. The FICO 9 version is a little more lenient than its predecessor FICO 8 or any of the earlier predecessors
FICO 9 is a little more sensitive to punishing high utilization but a little more forgiving of an isolated 30 day late payment. It treats numerous late payments more harshly. Small balance collections of $100.00 or less are completely ignored. When a new FICO version is introduced it sometimes takes some time for lenders to make the change. It is expensive to upgrade this kind of software. The latest versions of FICO 8 and FICO 9 measure the degree of bad behavior (90 days late or worse) relative to good behavior. Measurements of bad behavior stress the worst performance of any single credit obligation.
We will now revisit the 5 Components of your FICO score going into some interesting details you should know about each component.
- Payment History: At 35% of your score this is the largest and most important category. 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 late payments are: Frequency, Severity and Recency.
- Frequency: How often do you let your payments go into the status of a reportable derogotory? Because the CARD Act mandates a 3 week grace period it requires a total of 51 days late before you are reported as 30 days late.
- Severity: Are the negative entries late by 30 days, 60 days, 180 days? Major negatives include charge offs, liens, collections and 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 late payments of 30 days or 4 late payments of 60 days can be worse than 1 of 90. Each category is assigned from a narrative code to a numeric code assigning it to a place in the FICO universe.
- Recency: As items get older they are assigned less power. Was the offense 6 months ago or 6 years ago? The actual time breaks are measured in increments of about a year. 12 month, 24 months, 36 month old delinquencies are placed in buckets that get progressively weaker with age in the scoring damage they cause. The philosophy behind this practice is that older matters are less predictive of the future.
- If a foreclosure was started or a debt was settled for less than its face value a numeric code alerts the computer to that. If you have 5 charge offs and one is removed from the record because of age or is otherwise deleted the damage done by the rest is diluted
- Credit Utilization: At 30% of your score credit utilization on revolving debt is the second most important category. If you owe $500.00 on a $5,000.00 line of credit your utilization is at 10% which is fine. If you owe $4,000.00 on it your utilization is at 80% which is poor. On average a debt to available credit ratio of 10-19% costs 10 points. A 20-29% ratio costs 25 points. 30-39% another 25 points. It gets worse going up from there. It is a good idea to keep some cards at zero balance because even small balances carry some negative weight. Revolving debt to available credit ratio is mainly judged in the aggregate. You add up the credit limits on all your cards then add up the total debt to get your overall ratio. The ratio on each individual card has some importance too but to a lesser extent than your overall ratio. The amount owed on the date on which your statement closes is the amount reported to the credit reporting agencies. Be careful about charging things during the window of time between the due date and the statement closing date. Your month’s statement will close out from between 3 days to as much as a week later than the due date. A thin credit file with 1-2 trade lines at 75% utilization is riskier for default by 23% according to FICO. Credit card debt (revolving debt) is treated differently in the utilization category than installment debt such as a car loan or a mortgage. Installment debts such as car loans and mortgage loans are loans that by their very nature will have a high debt to available credit ratio for some years after they are taken out until they are gradually paid down. Since they are usually secured they are safer because the lender has some recourse in the event of default. The borrower also has additional motivation to keep up these loans if in trouble. He must save the car or house. Student loans cannot be discharged in bankruptcy absent extraordinary circumstances described in a key court decision as “a certainty of hopelessness”. In short the installment secured loan is not as risky. Paying the balance down 20% or more on an installment loan will not make much difference in your score.
- Average Age of Credit File: FICO refers to this as “TIF” (Time in File). At 15 % of your total score this frequently accounts for puzzling swings in credit scores. It consists of 2 sections: the age of your oldest account and the average age of your accounts. People who have handled credit for a long time in a responsible way have proven their stability. This is predictive of the future every study shows. Bear in mind that getting something old off your credit report 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.
- Active accounts are treated more favorably for scoring purposes than inactive accounts. If you have open cards you don’t use charge enough to make sure they don’t get closed for inactivity. Buy a pizza or tank of gas once in a while and pay it off the same month. If you close out an account its age will be carried for 10 years from the date of closing.
- Mix of Credit: As 10% of your score satisfying this category can turn a good score into an excellent score. You need at least one installment loan to go with your good credit card payment record to achieve the best results. The mix of credit factors in even more if you are going to be judged by an industry specific version of the FICO score such as an automobile score. Auto scores can vary by 15-20% from your standard FICO score. Many car dealers will not lend at all without some installment loan history on record. A mortgage with a good track record is the gold standard in this category. You can even get a “credit builder” installment loan secured by a CD from your bank or credit union to satisfy the need to establish a favorable track record in this category. Credit builder installment loans are also available online from selflender.com for as little as $500.00 for a small administrative fee. It’s worth the extra effort if you can afford to tie up a little money for 1-2 years.
- Inquiries: Rounding out the picture, also at 10% of your total score, is Inquiries. Soft inquiries such as those inquiries you make yourself or those made for unsolicited credit card and insurance offers without your permission have no effect at all on your credit score. One new hard inquiry has “little or no effect on the average credit score” according to FICO’s own website. Each further hard inquiry affects your score for only 1 year after it is made even though it is carried on the report for 2 years. One day after an inquiry is entered is treated the same as day 364. It does not dilute its effect within that year as it ages. How much each inquiry affects your score varies depending on where your score was when you started. It is usually only a few points. Multiple applications for a mortgage or car loan within a 30 day period are treated as only one inquiry because you are seen to be just shopping around. FICO knows this because there are codes hidden from the consumer within each application revealing which industry type of loan the application is for and the location of the lender. Most people worry far more than they should about inquiries. Except for mortgages they are usually only made to one credit reporting agency. The year goes by fast. Still it is always good advice not to apply for unneeded credit. New credit decreases the average age of your accounts.
Mortgage late payments hurt the most. If you absolutely must be late on something it should probably be a credit card rather than your mortgage or car payment. The credit card payment is not reported until it is 30 days late plus another 21 days mandated by the CARD Act for a total of 51 days. If you couldn’t help a late payment, the first moment you are able place a call to customer service and pay over the phone while giving them a good story. Most credit card companies will purge one late payment a year for a good customer after they get back to being compliant. Credit card companies are more likely to pull the trigger on a lawsuit than banks.
Some forms of credit are more equal than others. There is a pecking order when it comes to the scoring weight FICO gives to different categories of credit. Here is a list of the ranking importance of the types of credit in descending order:
- Other installment debt (car loans, boat loans, student loans, personal loans)
- Revolving debt (credit cards)
- Other revolving debt (store and gas cards).
The FICO “Bankcard Score” is the version most familiar to consumers. There are several versions including Bankcard 2, 8, FICO Score 3, and FICO Bankcard Score 9. The latest Bankcard Score 9 puts more emphasis on credit card history and less emphasis on medical debts, utility bills and one-off missed payments. The Bankcard score and the specialized auto dealer score known as the “FICO Auto Score” range from 250-900 unlike the standard FICO range of 350-850.
“Bankruptcy Risk Score” is a little known score that reveals how likely you are to file for bankruptcy. Although this specialized score uses many of the criteria of a credit score it is not available to consumers. Individuals have no way of knowing about 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 other FICO scores to “sharpen” a lender’s risk assessment. The FICO bankruptcy score includes reason codes that can be used in notifying consumers 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. The FICO “Transaction Score” measures money trouble type behavior. High on the list of what they consider questionable behavior is excessive cash advances on credit cards.
A flurry of credit inquiries will also get you in trouble here as will regularly going over the credit limit. There is a “Collections Score” to predict and assess the likelihood of a consumer going into further delinquency. There is a separate system to assist micro-financiers, startups and small business leasing to assess risk for their particular needs.
The FICO “Liquid Credit Score” is another interestingly named example of a specialized custom score. This score weaves together elements of your business and personal financial credit worthiness.
It is used by some industries to make instant credit decisions according to their own values. The FICO “Expansion Score” is yet another one. This score is used to evaluate the people who are outside of the system because they have no bank account, never had credit or other reasons. These people are also known as “credit invisibles”.
“Score X” offers FICO scores to countries outside of the United States that have enough reliable data to enter into their own custom made system which FICO will devise. Each specific country has its own different system. These systems are usually based on thin to very thin credit files depending on the diligence of each country in providing accurate data on key points of consumer behavior.
FICO Score XD is a new attempt in partnership with Equifax and LexisNexis to rate the 26.5 million consumers outside of the present system. This version is a result of FICO’s “Financial Inclusion Initiative” leveraging emerging technology, innovative analytics and new data sources. It uses alternative data such as telecom payment records along with cable and select public records. It can also bring older consumers with stale records resulting from lack of use of credit back into the system.
FICO’s new UltraFICO concept sees inclusion of bank account data as fair game for future versions of credit scoring. Consumers should be more careful than ever regarding bounced checks, overdrafts and negative banking behavior in any form. Inclusion of this data will be offered as a way for consumers to increase their FICO score if their bank account data shows responsible behavior over an extended period of time. UltraFICO will look at savings, checking and money market balances, length of history and transaction frequency. Balances of at least $400.00 with no overdrafts for 3 months will be expected. This increased emphasis on income and assets in credit scoring will likely take a long time to trickle down. Updating software is time consuming and expensive. UltraFICO will have little impact on those who already have a good score.
FICO even helps municipalities and others manage debt collection. FICO’s “Debt Manager” is “a configurable system that works in real time and integrates with other technologies to provide automated convenient payment options for consumers while increasing revenues.”
FICO Shares Secrets of High Achievers
A “High Achiever” is defined by FICO as a person with a FICO score of 785 or above. Finally the time has come when FICO shares the secrets of these high achievers with those who aspire to join them. Anthony Spraive, credit score advisor for FICO issued the following statement:
“While people with a high FICO score are not perfect, their consistently responsible financial behavior pays off over time. In a challenging economic period, the fact that we all have a chance to be high achievers is very good news. The lesson from these high achievers is that it’s never too late to rebuild and score high.”
Here are 12 characteristics of these high achievers that stand out from the ordinary:
- They keep low balances on revolving accounts.
- They don’t max out their credit cards.
- They consistently make payments on time.
- They have an average of 7 credit cards both open and closed.
- They use an average of 7% of their revolving credit.
- ⅓ have balances of more than $8,500.00 on non-mortgage accounts.
- 96% show no missed payments.
- Their oldest account was opened an average of 25 years ago.
- Their most recent credit account averages 28 months old.
- The average age of their credit accounts is 11 years old.
Some have had bumps:
- 1 in 9000 have experienced tax liens or bankruptcy.
- 1 in 100 have a collection listed.
- But: Less than 1% have an account past due.
Some of these characteristics may seem beyond reach. Certainly only a person with some years under their belt can have an oldest account of 25 years duration. Most people think only time can improve “age of accounts” category. Ninja credit trick: Piggyback (become an authorized user) on someone else’s vintage credit card and its age, payment history and debt to available credit ratio become yours.
If you are going to do this make sure the account has a flawless payment history and keeps a low balance in relation to its credit limit. Time is always on the side of those who are working to improve their credit history. Don’t get discouraged if you stumble.
A perfect score of 850 is held by only 1.5% of consumers according to FICO vice president in charge of scores and predictive analytics Ethan Dornhelm. A FICO score of 780 or above will get you the best deals on mortgages and other forms of credit. Anything higher provides a cushion in the event of a bad financial event down the road. Try to keep any one credit card from carrying a high balance in relation to its credit limit. Spread the debt around. The aggregated debt to available credit ratio of all your cards is the most important factor.
Those who are taking advantage of an interest free introductory offer on a new card will keep that card bearing as much of the debt load as its limit allows until the interest bearing cards are paid off.
Educational Credit Scores Confuse Many:
Educational credit scores are those scores that are produced by credit reporting agencies and credit monitoring services. These scores are little used by banks and credit card companies. They can produce a false sense of optimism. Wishful thinking can result in false hopes, bad decisions and unnecessary inquiries. Vantage considers old paid collections to be of little predictive value as to possible future defaults. FICO 8 is not as forgiving of old paid collections but FICO 9 forgives them. That is not to say that educational credit scores such as Vantage are useless. Each educational score provider crunches the numbers that go into credit scores in a different way. The educational score will not necessarily be very close to your basic FICO score. The credit card’s “Bankcard” version of your basic FICO score is now provided free by many credit card companies. Here is some basic information on the most popular educational scores based on currently available public information:
- Plus Score: The Plus Score was created and is sold by Experian. Plus Scores measure between 330-830.
- TransRisk New Account Score: TransUnion created this to rate and predict the risk on
- new accounts. This does not apply to existing accounts according to the CFPB. Range is 100-900.
- Equifax Credit Score: This is the proprietary credit score created by Equifax. They claim to use information from all 3 credit bureaus. Range is 280-850.
- Vantage Score: Developed by the big 3 credit reporting agencies. Vantage has been claiming for years to be catching up to FICO. Mortgage giants Fannie Mae and Freddie Mac leave the door open on using this more lenient score in the future but have been slow to act. Vantage has had 4 incarnations.
- Vantage 1.0 Range 501-990
- Vantage 2.0 Range 501-990
- Vantage 3.0 Range 300-850
- Vantage 4.0 Range 300-850. Puts more weight on trends and trajectory of the accounts.
- CreditXpert: This score is provided to companies that provide consumers with credit monitoring services. This is sometimes used by lenders to help identify ways for consumers to improve their scores. Same range as FICO 350-850.
There are so many moving parts to credit scoring that it is hard to say exactly why each system’s results differs from the others. The critically important debt to available credit ratio which counts as 30% of your FICO score only counts as 23% of your Vantage 3.0 score. Some educational scores don’t seem to take age of accounts into much consideration. Timely payments count as 35% of your FICO score but 32% for Vantage. Many alternative systems count hard inquiries for the 2 years that they show on the report instead of just for 1 year as FICO does. None of them are very open about the actual architecture of their system. If you use the same credit monitoring system month to month the changes that particular score shows for better or worse can give you a useful gauge of your progress since you are comparing apples to apples.