That’s right. Believe it or not, if you’re not careful you can actually cause your client’s credit scores to decrease by deleting certain negative credit items from their credit reports. I know as a mortgage loan originator you’re probably already more than familiar with the FICO credit scoring system and the typical 5 FICO Scoring categories that everyone talks about (i.e. Payment history, credit usage, average account age, credit mix, and inquiries).
However, there is much more going on behind the scenes as it relates to how FICO calculates credit scores. So stay with me as we run through the ABC’s of how the FICO credit scorecards impact credit scores. It may be difficult to stay engaged, but it’s worth it to make sure you properly counsel your clients about their credit reports to avoid accidently causing their credit scores to decrease.
Here’s how it works…
FICO separates consumers into various groups based upon the information contained in their credit reports. Those consumers with similar credit items in their credit reports are grouped together on the same credit scorecards.
FICO’s formula is programmed to start by looking for credit reports that only contain positive credit information. This is where the typical 5 categories come into play. The formula reviews the consumers’ age of accounts and the number of accounts, and the age of the youngest account. If there are any delinquencies listed on the credit profile, it then considers if there are any public records (i.e. judgments, bankruptcies, or tax liens). If there are multiple public records, the formula takes into account the worst of the public records listed. So a bankruptcy is worse than a tax lien, so credit histories with bankruptcies would be considered first.
Next, all of the data is gathered by the FICO system and assessed. The consumer is then assigned to one of the 10 FICO credit scorecards. Again, the credit scorecards represent groupings of consumers with similar credit information contained in their credit reports. For example, those with only a few late payments will be grouped with other consumers with only minimal delinquent credit histories.
FICO Credit Scorecards 1-5:
1. Consumers with bankruptcies or other public records listed in their credit profiles.
2. Consumers with serious credit delinquencies other than bankruptcies (e.g. 60, 90, 120 late payments, collections, judgments, charge-offs repossessions, etc.).
3. Consmers with only 1 credit account in their credit histories (“very thin files”).
4. Consumers with only 2 credit accounts in their credit histories (“thin files”).
5. Consumers with only 3 credit accounts in their credit histories.
Scorecards 6-10 are for consumers without ANY serious delinquencies at all. However, FICO will not disclose exactly what they mean by “serious” delinquencies.
6. Consumers whose oldest credit account is only 0-2 years old.
7. Consumers whose oldest credit account is only 2-5 years old.
8. Consumers whose oldest credit account is 5-12 years old.
9. Consumers whose oldest credit account is 12-19 years old.
10. Consumers whose oldest credit account is 19+ years old.
Researching of the FICO credit scorecards and how FICO uses them, resulted in the discovery of these 10 scorecards, but FICO’s new FICO 08 release actually has12 scorecards.
FICO claims that grouping consumers by scorecards enhances the predictability of consumers’ following thru with timely payment of their credit obligations. They believe that by tracking the payment histories and default patterns of consumers with similar credit information will predict similar default rates by other consumers similarly situated.
Consequently, FICO uses the scorecards to assign different weight to the same information, in an attempt to make credit scoring more fair. Basically, the objective is to not score a consumer with a perfect credit history against a consumer with a poor credit history.
Why a credit score can actually decrease by deleting negative credit items
I have seen instances where consumers have attempted to improve their own credit scores by successfully getting a bankruptcy deleted from their credit score, only to see a significant drop in their credit scores. Here’s why. If the consumer is originally grouped with other consumers with bankruptcies, they could be listed at the top of that list depending upon the other credit report factors. So they may compete pretty well against that group of consumers. However, once the bankruptcy is deleted, they will be grouped with a different set of consumers and can be placed near the bottom of that scorecard. In essence, they may not be competing as well in comparison to other consumers’ credit information in the next scorecard grouping. It may take time to move up on the new scorecard.
The same thing can happen when a consumer moves from a scorecard of consumer with a “thin file” to a scorecard of consumers with older credit accounts that are more aged. The consumer may have to start at the bottom of the new scorecard group. Consequently, their credit scores can drop drastically. Here is an example that FICO provides on their website:
“You moved from one category of credit users to another as time passed. For example, you may have transitioned from the category ‘”consumers with a new credit history”‘ to the category ‘”consumers with a two- to five-year credit history.”‘ As a result, your credit report is evaluated differently, causing a slight change in your score. The good news is that moving between categories like this usually offers you the potential to reach a higher FICO score in the future.”
However, this doesn’t mean that all is lost. The good news is that as your client climbs up the rungs of the new scorecard group they have the potential to increase their credit scores beyond the maximum credit scores they could have achieved while still on the previous scorecard grouping. The key is to know how to make wise and “credit score friendly” use of their credit and add a good blend of positive credit information onto their credit reports when rebuilding their credit. I call this a credit score lifestyle by design.
FICO claims their new FICO 08 release resolves the problem of the drastic drop in credit scores for consumers that move between scorecard groupings, by increasing the number of scorecards from 10 to 12. The current FICO model uses 10 scorecards. FICO 08 adds 2 more. By now dividing the population into 12 consumer groups (i.e. 8 for consumers with good credit histories and 4 for consumers with poor credit histories), FICO hopes to level off the drastic reduction in credit scores resulting in changing consumer groups.
As I have mentioned in my previous blog article about Piggybacking, FICO has also indicated that the FICO 08 release will no longer include authorized users in the credit score calculation.
This is yet another example of why many consumers today can truly benefit from the services of a professional credit repair organization or credit repair attorney. Unfortunately, most consumers (as well as many Government Regulators) are simply not aware that credit improvement is not about simply removing inaccurate and non-compliant negative credit items from consumer credit reports. It also entails a working knowledge and consumer education regarding the credit scoring system and how to make smart credit decisions to optimize consumer credit scores as well. This is an essential part of professional credit improvement services.
Now aren’t you glad you hung in there and learned all you ever wanted to know about credit scorecards? In any event, hopefully, as an MLO, you will now be able to share this information with your clients and close the deal!
