Credit Scoring Rules are Changing (again)
Not too long ago, FICO changed its credit scoring formula. Remember when it changed the way it handled “authorized” users? Well guess what? FICO is changing its algorithm again! MSN has two interesting articles that provide a little info about the new changes, referred to as FICO 08:
Fair Isaac says the new score will do a better job of predicting defaults than the classic FICO, which is used in more than 75% of mortgage lending decisions and by 90% of the largest U.S. lenders.
But FICO 08 is even more sensitive than the classic FICO to how much of your available credit you’re using. If your credit card issuer slashes your credit limit…you could see your scores plunge, regardless of whether you carry a balance.
Another hazard: The new scoring formula responds more negatively if consumers have few open, active accounts. Because more credit card issuers are shutting down unused and unprofitable accounts [this happened to me when Chase closed my card due to 24 months of inactivity - SM], that boosts the chances of damage to your scores.
This sounds like a bunch of sneaky ways to benefit lenders, huh? Don’t get discouraged just yet. There are also 3 primary benefits (I use the word loosely) for consumers:
- small collection accounts (i.e. less than $100) won’t hurt as much, previously all collections carried equal weigh;
- one bad account (i.e. charge off or repo) won’t hurt as bad if you have many other accounts still in good standing; and
- although previously discontinued with the last FICO formula update, credit for “some” authorized user accounts will be granted
TransUnion will begin using it in January, Equifax in the Spring, and Experian is TBD.
How FICO Scores are Changing: 3 Scenarios
Fair Isaac created the following scenarios to help consumers understand how FICO 08 works:
There’s a scenario for “high risk consumers,” “thin file consumers,” and those classified as “mainstream consumers” – which I assume mean “regular” folks. Each scenario describes two people who appear to have similar credit profiles, but based on the new FICO 08 formula, the minor differences result in one having a significantly higher/lower score than the other.
Fabulous Financial Tip
Years ago, I used to live on this website. There is a wealth of knowledge, several experts, and many regular people who want to learn about credit reports, scores, and credit repair. Since then, I’ve been relatively successful applying what I’ve learned. Now that I’m in sustainment mode, I simply monitor my reports daily and my credit score annually. I look forward to pulling my score next month because I’m contemplating a refinance to take advantage of existing low rates.
Please remember: the way you manage your money and pay your bills have a direct impact on your credit score. Regardless of the FICO formula, too much debt, late payments, charge offs, repossessions, judgments, collections, etc. result in bad credit. A little debt, timely payments, no public records, balanced credit mix, etc. result in good credit. So if you don’t have a handle on your finances, it’s unlikely that your credit will work to your advantage. Focus on your finances first and your credit score will follow.
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Thank you for this. I personally don’t pay much (read: any) attention to my credit score on a regular basis. I found out what it was rather by chance. It will change with the new rules. It will be curiuos to see how, but not particularly concerned. I do monitor my credit report for any issues just in case. I very much agree that if you handle the finances, the credit score will follow.
By the way: It was an interesting moment in our house when my DH found out my credit score was higher than his! We both have “excellent” scores, but it was funny anyway.
Well…”age” of accounts is an important factor. So maybe your score is higher because you’re older. LOL Just a thought…[-SM]
This article about the new credit score ratings by SM just proves my opinion: In order to have a good credit score, you must get in debt with a broad number of different types of debt, stay in debt, and make lots of debt payments your whole life. As a result of this behavior you’ll make sure to pay creditors well and thus reduce the money available for your independent living while you are old and gray. Credit also increases your risk in the event of layoffs or some other financial disaster in your life. I refuse to play with these snakes.
Why doesn’t the FICO system reward people for having debt, handling it responsibly, paying it off, and living within their means with a large savings account? I believe the answer lies in the fact that creditors wouldn’t make any money! I refuse to support the fat cat creditors.
I got laid off 12/15/2008 and am a single parent. I am glad the only loan I have is my house (15 year, 5.5% fixed loan). If I had student loan debt, car debt, and credit cards in order to make my score higher, I’d be panicking right now. Instead, I am at peace knowing my emergency fund will last me 18 months – yes, you read that right, 18 months! The way I was able to save to much is that I am not paying fat cat creditors.
Think about it. Yes, I am weird and I know it.
Credit is a tool, that serves you well, if used properly. With a 5.5% fixed 15 year mortgage, you’ve obviously used it to your advantage. [-SM]
Now, that was just WRONG. I am “only” nine months older…LOL
But, you are probably right. I opened up my first credit card when I was a freshman in college and have pretty much kept that same account ever since, along with a couple of others. My DH didn’t open up his first account, as I recall, until he had finished college and was gainfully employed. So, I do have 4 years of credit history on him, not to mention paying off student loans, which he did not have to deal with for his education.
The gap is not as large as it would have been earlier in our marriage, but it was still slightly fun to have a higher score. I am not going to lie.
That was mean, huh? *shrug* I still luv ya though! LOL
You monitor your reports daily!?!?! As in every day? Do you pay a service to have that kind of access, and if so, did you get a great deal?
Yes. It’s a service through one of my credit cards. My reports are monitored daily and I get an email warning when something changes that needs my attention. [-SM]
Just found your blog and thanks for sharing this info!
I just checked my score it it went up 24 points from November!
SM, your lessons are useful :-)
Wow, that’s a large increase for only one month! What changed?
If you’re reducing debt, keep up the good work! [-SM]
I have been paying and not shopping :-)
however I think that my scores were higher than those shown on the CC website.
I have been so busy with work since September that I did not check anything at all, just pay and not buy, so this jump might be somewhat misleading and that particular CC did not have right scores to begin with.