Facts You Need to Know About the New FICO Score 9
The FICO Score-Three digits that have a big impact on most Americans’ financial life. FICO Scores are used in a large percentage of lending decisions. For the first time since 2009, FICO (formerly known as Fair Isaac Corporation) released a new version of its scoring algorithm called FICO Score 9. It contains several changes to how the score is calculated. This new formula offers hope to consumers whose credit reports contain certain types of negative information.
These changes can have a big impact on consumers and many industries that rely on consumer reports. Here are some things you need to know about the new changes.
Non-traditional credit, such as residential rental history and utilities, will be taken into consideration. This means that consumers who have little to no credit history, often called a “thin” file, but pay rent, utilities and other non-traditional bills on time will get a boost. Since payment history and the length of that payment history currently account for approximately 50 percent of the FICO credit score, more consumers will have the opportunity to build a positive credit history through non-traditional means. This will help reduce the need for people to go out and get credit cards and incur unwanted debt just to get a score.
Collections-According to FICO, over 200 million Americans have a credit report and FICO Score. Of these, over one third has at least one collection on their report. Only about ten percent of all collections are paid. Of the unpaid collections, approximately 53% are medical-debt–related. Until recently, lenders and the credit bureaus have been using FICO 8 and older versions, which factor in all collections whether paid or unpaid and medical or non-medical. The new FICO 9 will separate collections into several categories.
All paid collections will no longer be factored into the new FICO score. They will still show up on the credit report for 7 years, they just won’t count toward the score. This includes medical, non-medical and collections where a settlement was taken. As long as the collection shows a zero balance, it will not be factored into the score.
Medical collections will no longer be factored into the FICO Score, whether paid or unpaid. This has long been lobbied for by many lenders and consumer groups. The thinking behind this is that many consumers have some kind of medical past-due account on their credit histories. This is in large part due to insurance companies paying late or not at all. Also, many doctors and hospitals will turn an account over to collections long before the insurance has even settled. Most medical debt is not self-incurred debt and has nothing to do with how good or bad a person is with their money. Medical bills happen, whether you want them to or not. It’s not like people go out and have a heart attack to spend money they don’t have.
Unpaid Non-medical collections will now have a greater impact on the score. Combine this with the fact that a paid collection will no longer be factored, consumers will have a greater incentive to pay past due collections to raise their score. This will change the long used premise that the older the collection item, the less impact it has on your score. Also, the old adage of “don’t pay back that five-year-old collection item and just let it age because activity on a collection item could make it appear more recent” is no longer true. Their score will benefit more if they pay it. This change removes all ambiguity. If you pay back your collection items, your score will benefit.
Many people will see a rise in their credit score while some will drop. For example, according to FICO, someone with a current 711 credit score whose only negative marks are a couple of medical collections will see an average 25 point rise in their score using FICO 9. This can make a big difference for someone who was on the cusp of getting approved for a loan or getting a better interest rate.
But don’t get too excited yet. Even though FICO and the credit bureaus have made the new formula available, it’s up to lenders to start using it for loan approvals. Past versions have taken up to a year or longer for lenders to adopt. It’s just like upgrading software on your computer. You have to want to do it and go through the process and expense to implement it. Because many of the most recent changes were requested by the lending community, and because of pressure to increase lending, many experts believe this formula will be implemented more rapidly than previous versions.
As consumer behavior changes, credit scoring should adapt. According to Experian, since the recession of 2009, credit card balances have fallen substantially and delinquencies on consumer loans have plunged, marking changes in consumers’ risk levels. What may have been an indicator of risk several years ago, isn’t any longer, or isn’t as strong. The advances in FICO 9 provide significant incentives for lenders to upgrade from earlier versions of the FICO Score. Lenders can more consistently and precisely assess new applicants and existing accounts with a more robust credit score built on the most current credit data available.
These changes should make a difference with many consumers’ scores. How much though, and how long it will take, still remains to be seen. Remember, a credit score and a credit report isn’t the same thing. The score is derived from the report, which is why you still need to look at the report. The whole premise is to better assess a person’s ability to pay their debts. These changes should make it easier for lenders to approve more loans without taking on more risk.