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We take a stand on transparency

What’s the biggest complaint both lenders and consumers have about credit scoring models? I’ll spare you the Google search: it’s a lack of transparency. You know, the old black box argument.

When credit scores first came into wide use, perhaps that made sense. Credit scores were used within a lending institution’s “back office” function of credit underwriting. It was an esoteric, three-digit number that only a handful of people needed or wanted to understand. Additionally, model developers did not see the value of educating consumers about how scores actually worked.

Nowadays, obviously, that has changed. Credit scores are widely used for marketing credit products, making credit decisions, understanding month-to-month fluctuations of risk in a lender’s portfolio of loans, making loan purchases by secondary market investors, as well as empowering consumers to improve their financial habits.

Across this lifecycle, understanding credit scores and how they are built — their performance and impact — as well as what’s causing scores to fluctuate, is critical for all stakeholders. As model developers, it is our responsibility to provide more information and shed the practices of the past that led to distrust and misinterpretation.

Beginning with our launch 12 years ago, we’ve aimed to raise the bar on transparency and with the hope that the rest of the industry would catch up. We’ve never shied away from sharing how well our models are performing and we have publicly posted the results of all our validation studies since we launched. Stay tuned for the most recent results.

Another example of this effort of sharing a great deal of information about our models: we publish the tests we perform to ensure the models aren’t unfairly mistreating any particular consumer groups. This is known as “statistical bias” in data speak. Statistical bias concerns about a particular credit score model arise if the probability of default (PD) varies between various groups of consumers even though members of the respective groups receive the same score with the same model. Groups impacted may be minority groups or those with nontraditional credit histories.

This critical test was performed on our most recent model, VantageScore 4.0, and we examined the results to make sure our model isn’t treating these groups of consumers any differently than other groups or the broader population.

Taking that a step further, we’ve published those results in the “Testing Credit Scoring Models for Statistical Bias: Ushering in a New Era of Transparency” whitepaper and posted it on our website to make sure that the marketplace will know that our models show no statistical bias. And I encourage you to read the synopsis that we’ve included in our “Press Room” if you don’t have the time to read the full whitepaper.

Then there’s ReasonCode.org, another example of opening the black box for consumers seeking to understand what their score disclosure notices actually mean. Consumers used to receive cryptically worded codes in these notices that attempted to explain why a consumer’s score wasn’t higher. We wrote deeper explanations and tips for every reason code associated with all four of our models (and also translated that information into Spanish) and created a free search engine for consumers that connects them with this educational content. 

These are just a few examples that come to mind. The point is that transparency isn’t a switch you turn on and off. We collaborate with many financial institutions as they are developing or updating their credit score educational content surrounding credit score content. And we’re proud to set the standard for the credit scoring model development in the industry.

Since summer is coming to a close, we thought we’d keep your summer reading list light with a few of our favorite articles from the past six months plus a “5 Questions with” Liz Weston, a financial columnist for NerdWallet. It’s been a busy year for us, and these articles are just the tip of the iceberg. 

Looking forward to a productive fall. 

Barrett Burns

CEO and President, VantageScore Solutions

Did you know? How students can build credit

By John Ulzheimer

In 2009, the Credit Card Accountability, Responsibility, and Disclosure Act became law. This Act often referred to as the CARD Act, restricted credit access to consumers who are under 21 or don’t have the capacity to make payments on credit obligations. The hypothesis made sense: people who didn’t have the ability to pay their bills shouldn’t be able to get into debt. The downside to the Act, however, is it made capable people wait an additional three years in order to start establishing a credit history and credit score, assuming those people wanted to get started when they turned 18 years old.

One of the hardest hit groups is students who want to get a credit card while in college but can’t because of the restrictions. And while they can easily obligate themselves to tens of thousands of dollars of student loan debt, college kids have to get creative in order to establish a credit history and a credit score using a credit card, for example.

The Authorized User Strategy

A common method for a student to establish and build a credit history and jump-start their credit scores is to ask a loved one (e.g., a parent) to add them as an authorized user on an existing credit card. Essentially being an authorized user is like having a credit card with training wheels. You have full charging capabilities, but you don’t get the bill and you’re not liable for the debt associated with the credit card.

The reason the authorized user strategy is such a good option when it comes to building a credit score is that almost all credit card issuers will report the activity of the credit card to the authorized user’s credit reports. As long as the card is used responsibly and paid on time, it will help to establish a credit history and a solid credit score. Plus, if you no longer want to be an authorized user, you can request that your name is removed from the account with no problem.

The Co-Signer Strategy

One of the provisions in the aforementioned CARD Act allows consumers who are under 21 years old to open a new credit card if they have a co-signer. If you can find someone to co-sign your credit card application then you’ll likely be able to open a new general use credit card (e.g., a Visa, MasterCard, Discover, or American Express). The purpose of opening a card with a co-signer is exactly the same as opening a card on your own, which is to get a positive, well-managed credit card on your credit reports. 

If you manage the card properly by paying it on time and maintaining a low balance, then it will help your credit scores. The only downside to the co-signer strategy is both parties (i.e., you and your co-signer) are equally liable for the debt whether or not you were the one who made the purchases. And, there is no easy way to have your name or your cosigner’s name removed from the account simply because one of you no longer wants to be associated with it.  

Disclaimer: The views and opinions expressed in this article are those of the author, John Ulzheimer, and do not necessarily reflect the official policy or position of VantageScore Solutions, LLC.

Which credit score to use? The industry battle is on.

A fight over the credit score lenders use for your mortgage: VantageScore could threaten Fair Isaac’s grip on the U.S. mortgage market.

By AnnaMaria Andriotis and Christina Rexrode, published on January 30, 2018 in the Wall Street Journal

Banks and rival lenders are butting heads over the credit scores used to decide millions of mortgage requests by U.S. home buyers.

Now, a federal agency is weighing whether to step into the fight, which revolves around a longtime requirement for lenders who sell mortgages to Fannie Mae and Freddie Mac to gauge most borrowers using FICO scores. The Federal Housing Finance Agency’s ultimate decision could have wide-reaching ramifications for the mortgage market and home buyers across the U.S.

Many nonbank lenders, which in some recent quarters have accounted for more than half of the mortgage dollars issued in the U.S., want the ability to use a credit score provided by a company owned by credit-reporting firms Equifax Inc., Experian PLC and TransUnion. These lenders argue the alternative score would open the mortgage market to a greater number of people and lead to more mortgage approvals, helping to boost home sales and the economy.

Banks generally want to stick with the current system that uses FICO scores, which have been around for decades and are created by Fair Isaac Corp. Ditching the status quo, they say, could lead to an increase in consumers with riskier credit profiles getting mortgages and a subsequent rise in defaults.

The FHFA, which oversees Fannie and Freddie, is weighing whether to change the requirement to allow for the use of another credit-scoring system. In late December, the agency asked lenders and others for formal input on the issue.

In doing so, the FHFA acknowledged concerns about a “race to the bottom” where credit-scoring systems would compete to offer metrics that make the most loans rather than aspire to be the most reliable.

Credit scores help determine who gets a mortgage and on what terms. They played a role in the last housing boom and bust as lenders lowered credit-score requirements, extending hundreds of billions of dollars of mortgages to subprime borrowers.

After the financial crisis, lenders tightened requirements for potential home buyers. As part of this, they required higher credit scores, making it more difficult for borrowers with spotty credit histories to qualify for a mortgage.

That is why some lenders, mostly nonbank firms, want a change in the kind of scores that can be used. They would like to increase mortgage volume by expanding the pool of borrowers.

These lenders view FICO scores as an impediment since they tend to be more conservative than alternatives.

Nearly half of mortgage dollars made in the U.S. go through Fannie and Freddie, according to Inside Mortgage Finance, so their requirements have huge sway over the mortgage market.

Nonbank lenders argue the current system shuts out borrowers who don’t use credit either out of personal choice or because they went through a bankruptcy or foreclosure. That is where VantageScore Solutions LLC, the scoring firm that Experian, Equifax, and TransUnion launched in 2006, says it can step in.

The company says it can assign a credit score to about 30 million more consumers than FICO. Roughly 7.6 million of those consumers would potentially be eligible for a Fannie or Freddie mortgage, VantageScore says.

VantageScore, for instance, says it will assign credit scores to consumers if they have a credit card or a loan for as little as one month. FICO requires six months. Separately, FICO creates scores for consumers as long as lenders or other entities update information on their credit reports within the last six months. VantageScore says it will go further back than that.

Banks aren’t convinced, even if some big ones have begun to experiment with VantageScore for small pools of applicants whose FICO scores aren’t high enough for a mortgage approval. “We’ve got so much experience using the system we’re using now,” said Gerard Cuddy, CEO of Beneficial Bancorp Inc., a Philadelphia community bank.

The banks’ trade group, the American Bankers Association, says the current system allows for strong underwriting standards. Introducing a new scoring model could put that at risk, said Joe Pigg, senior vice president of mortgage finance at the ABA.

It also could open up mortgage lenders to legal liability, the group says. One feared scenario: If one scoring model is found to approve some borrowers, banks could be accused by regulators of discriminating if they use the other model, Mr. Pigg added.

Nonbank lenders counter that the current system is too rigid and unfairly excludes deserving borrowers. Sanjiv Das, CEO of a major nonbank lender, Caliber Home Loans Inc., said VantageScore could open up homeownership to customers including millennials who don’t have a credit history because of their age.

“I strongly believe that a large number of customers are being excluded because of the slavish reliance on FICO,” Mr. Das said.

Mat Ishbia, CEO of another major nonbank lender, United Wholesale Mortgage, said he was enthusiastic about a possible change. “Doing something just because you’ve always done it that way isn’t a good enough reason,” Mr. Ishbia said.

Both sides agree that Fannie and Freddie’s credit-score requirements need an update, partly because lenders using credit scores must employ an old version of the FICO score.

But the FHFA appears to have doubts about adding a new credit score into the mix. When asked during a congressional hearing in October about new credit-scoring models that can assign scores to people with limited credit histories, FHFA’s Director Mel Watt said, “The notion that there would be substantially more people credit scored and that would increase access if we had competition is probably exaggerated.”

The FHFA has several options as it weighs the debate, including requiring lenders to check credit scores either from FICO or VantageScore; requiring lenders to check both; or allowing lenders to choose between the two scores.

Not all nonbank lenders are urging change. Stanley Middleman, CEO of the large nonbank lender Freedom Mortgage Corp., supports the continued use of FICO, partly because he doesn’t see the point of adopting a whole new system.

“I don’t think people are getting boxed out of homeownership,” Mr. Middleman said. “And I don’t feel like we’re guilty of something by asking people to have a credit history.”

Rethinking the mortgage monopoly

This Monopoly Is Holding Back the Mortgage Market

Credit scores aren’t working the way they should.

By Editorial Board, published on January 18, 2018 in Bloomberg

If you apply for a mortgage in the U.S., chances are your credit score will be generated by an algorithm better suited to the economy of the 1990s — part of an ossified system that could be denying millions of otherwise qualified Americans the opportunity to buy a home.

Regulators are considering an update. What’s really needed is a rethink.

Perhaps no number is more important to U.S. consumers than their credit score. It can determine everything from the size of the required deposit on a rental apartment to the interest rate on an auto loan. When they work well, credit scores grease the wheels of the economy by giving businesses a rough first sense of who might qualify for a loan or service.

In the mortgage market, however, credit scores aren’t doing their job properly. That’s because Fannie Mae and Freddie Mac, the government-controlled entities that guarantee most home loans, have for more than a decade required lenders to use only one score, known as Classic FICO. A product of Fair Isaac Corporation, the biggest player in the credit-scoring business, it was developed using consumer data from the late 1990s.

Much has changed in the availability and understanding of credit data since the 1990s, leaving Classic FICO in many ways outdated. For example, it can’t distinguish between overdue medical and non-medical bills, which have very different implications. It also dings people for debt already paid to collectors — an item that has little predictive value. Thanks to these and other shortcomings, it can score people inaccurately — or sometimes not at all.

The Federal Housing Finance Agency, which oversees Fannie and Freddie, is rightly considering moving to a newer model. Candidates include FICO 9, released in 2014, and VantageScore 3.0, produced by a joint venture of the three big credit bureaus. VantageScore’s purveyors say that, by taking a different approach to the available data, it can produce scores for as many as 35 million added Americans. This could help identify a lot of creditworthy borrowers, including blacks and Hispanics, whom conventional models miss.

Rather than choosing a single winner — creating a new monopoly with little interest in changing its methods as circumstances change — the FHFA should encourage more competition. Approve a number of different models and let lenders choose among them. This would give credit-scoring companies an incentive to incorporate the latest data and technology and create an opening for firms that have been exploring unconventional data sources, such as social media and mobile-phone accounts.

Would competing credit-scoring companies engage in a race to the bottom, becoming increasingly lenient to gain market share? That danger needs to be watched, but post-crisis mortgage rules have placed strict limits on the loosening of lending standards. The Urban Institute’s Housing Finance Policy Center estimates that the mortgage market is taking on less than half the risk it did in 2001 before the housing bubble started to inflate.

Maintaining FICO’s monopoly would be convenient for regulators, who otherwise will have to manage and monitor an array of models. But competition is more likely to serve the interests of consumers and the economy.

Rerouting the journey to homeownership

How VantageScore could affect the housing market

By David Lord, published on February 21, 2018 on Credit.com

Did you know you have multiple credit scores, and that for all the work you have done to build your FICO score there are actually many other factors that can affect loan approval?

FICO — the Fair Isaac Corporation which calculates consumer’s credit — has essentially operated unopposed for decades. FICO scores have become synonymous with credit reports and 90% of loan decisions epend on this numeric assessment of borrower viability.

However, in 2006, the three major credit reporting agencies — Equifax, TransUnion, and Experian — developed their own credit reporting algorithm, VantageScore. VantageScore was developed in an effort to compete with FICO but has yet to harness the same control in the credit reporting market.

VantageScore is similar to FICO because it uses statistical analysis to predict the likelihood a borrower will default on a loan. Like FICO, the viability of a borrower’s potential is represented by a number between 350 and 800. However, VantageScore uses a proprietary algorithm that favors those with little credit history.

Unlike FICO, VantageScore considers recurring payments such as phone bills, utilities, etc. and takes into account 24 months of activity rather than the six-month period of FICO scoring. For this reason, VantageScore can be an advantageous score for those with little or no established credit history.

While VantageScore is used by around 3,000 lenders, it still has a way to go before usurping FICO control. However, this could change in light of potential Federal Housing Financing Agency reform. The regulatory agency is considering changing credit score requirements and potentially transitioning to VantageScore instead of, or in addition to, FICO. If this is the case, there could be significant changes in the way people secure new homes.

Easier for first-time homeowners to qualify for mortgages

A 2015 Consumer Financial Protection Bureau report found that nearly 45 million Americans lack any significant credit history. As a result, a major portion of the American demographic is barred from mortgage approval which not only prevents millions from achieving their dreams but also inhibits housing market growth.

The inclusion of VantageScore for credit checks would inject a huge sum of money into the housing market, which would normally go to rent payments. An invigorated housing market would benefit new owners, current owners, and future owners — a win/win/win for all involved.

Overall increased consumer control

The government-controlled agencies Freddie Mac and Fannie Mae, which guarantee U.S. mortgages, have almost always required lenders to use FICO scores to determine prospective borrowers’ creditworthiness. This means consumers have been pigeonholed to one, single way of building their credit history. The only way to satisfy the standards of FICO, and build credit under this model, has been to follow a pre-established and static path of borrowing.

If VantageScore were to be considered for mortgage approval, Americans would have greater consumer freedom — possibly rerouting the journey to homeownership entirely. An alternative credit reporting method would allow mortgage approval for a whole new crop of borrowers that did not follow a traditional financial path.

This is an exciting prospect because it means a previously unconsidered group can now potentially secure a loan. More often than not, opening up markets and promoting consumer flexibility is a favorable prospect for the U.S. economy and individual prosperity.

Greater possibility to start anew

One of the most prominent advantages of VantageScore for many Americans is that paid collections are completely disregarded. Under FICO, if you happen to be in collections for delinquent bills, but then pay the outstanding amount, your credit report is still negatively marked for many years. This is a tricky situation for many people that experienced temporary financial hardship because they continue to be punished for collections despite paying off those accounts.

VantageScore takes a different approach to collections — there is no harm done if collections are paid. This is a huge advantage for newly prosperous individuals because they can be approved for a mortgage unfettered by past mistakes.

Break up FICO monopoly

When a single entity controls an entire market, consumers sacrifice free market agency. This is not to say FICO exercises any sort of tyrannical control, but it could certainly be a positive thing for consumers to have more options. As stated above, mortgage approval will usually come down to your FICO score, so an alternative would improve many people’s opportunity to get a home.

The importance of checking credit

VantageScore is currently being used for some auto loans, credit cards, and mortgages. Wider acceptance — brought on by sweeping federal adoption — would have vast-reaching implications on the housing market and individuals alike.

Today, when you apply for credit, you don’t get to choose if your FICO or VantageScore is used. For this reason, it’s important to monitor all financial factors and repair credit as needed.

In light of further acceptance of VantageScore, your job as a consumer has gotten a little harder. Most people know it’s a good idea to check FICO scores before applying for mortgages, but that’s simply not enough these days.

Wealth gap between races is widening

Black families have 10 times less wealth than whites and the gap is widening—here’s why

By Jennifer Streaks, published on May 18, 2018 on CNBC.com

The wealth gap between white and black Americans is widening: Black families now have 10 times less wealth than whites. Sen. Tim Scott (R-S.C.) thinks he knows why, and he is trying to do something about it.

In spite of all of the strides people of color have made over the past 50 years in America, there has not been much real progress on many fronts in minority communities because the underlying issues of racial inequality have not been adequately addressed. It remains harder for minorities to get the credit they need in everyday life, for example, which makes it harder for them to make big purchases, like buying a home, which could help them build and pass on wealth.

Since the 2008 economic downtown, many Americans have had an easier time accessing credit. Restrictions have eased, and that has allowed millions to buy homes and start businesses. The recovery has worked well for Americans generally — except minorities.

Right now, minorities find it harder and harder to gain access to credit, especially when it comes to mortgages. The homeownership rate among minorities is on the decline: Homeownership among white Americans is more than 30 percentage points higher than among black Americans, according to Trulia.

In addition, a new study found that African-Americans and Latinos were far more likely to be denied conventional mortgages than whites, even when income, loan size and other factors were taken into account.

Black applicants were disproportionately turned away, as compared to whites, in 48 metropolitan areas. Latinos in were turned away more often in 25 areas, Asian-Americans in nine and Native Americans in three. In Washington, D.C., the study found that all four groups were far more likely to be denied home loans than whites were.

What is happening is that ongoing racial inequality has led to credit inequality.

The current credit scoring model ends up eliminating many African-Americans, Latinos, and young people that are otherwise credit worthy, making them in effect “credit invisible.” Credit invisibility leaves a person unable to access necessities, since, besides homeownership, credit is used when a person applies for health insurance, car insurance, and even employment. When a person is credit invisible, it becomes harder for them get started, or to move forward after and respond to life’s challenges.

“There needs to be an alternative scoring model to judge credit-worthiness,” says Scott. That’s why he has introduced the Credit Score Competition Act, which would create an alternative model for credit-worthiness that would include consistent payments for rent, utilities and cell phones.

“With gentrification and an increasing shortage of affordable housing, no one can afford to be ‘credit invisible.’ Having access to credit is like having access to a better life and if minorities are being denied that because of the current system then other ways of ensuring access must be employed,” he says.

The three major credit bureaus, Equifax, TransUnion and Experian, found that civil judgement and tax lien data was often being reported inaccurately and not being updated enough to serve its intended purpose. When listed on a credit report, these pieces of public information can be a major obstacle to obtaining credit. The bureaus have agreed to remove it from consumer credit reports and to stop reporting it going forward.

Access to mortgages remains one of the larger goals of this process. “Homeownership has always been a part of the American Dream,” says Scott, “so this is an opportunity to make the system fairer for everyone.”

The Mortgage Bankers Association agrees. “Increasing competition and providing a level playing field in the development and use of credit scoring models should ultimately result in more accurate modeling, which could potentially benefit a wide variety of under-served borrowers, particularly younger people and African Americans and Hispanics,” says Bill Kilmer, Senior Vice President for Legislative and Political Affairs.

There is a direct correlation between the widening gap in wealth between minorities and white Americans and the increasing gap in homeownership. The fact that so many more whites own their homes is one of the reasons why white median family net worth is nearly ten times that of African-American families.

As Scott puts it, “it is imperative that minority applicants start to fare better when trying to gain credit. If a person is credit-worthy, they should have access to credit at the same rate as everyone else. It is the only way we can all move forward.”

Jennifer Streaks is a financial and consumer news journalist who has written for The Huffington Post, Motley Fool and Black Enterprise and been featured on ABC, MSNBC, FOX Business and HuffPost Live, discussing money, business and consumer news. Find her on twitter @jstreaks.

5 Questions with Liz Weston, CFP

Liz Weston is a NerdWallet Columnist and Certified Financial Planner whose goal is to help you get smarter about money so you can get on“Feb2018” with your life. She’s the author of five books, including the best-selling “Your Credit Score,” and has appeared on a bunch of TV shows, including CNBC’s Power Lunch, Mornings with Maria on Fox Business, NBC Nightly News, the Today Show—and Dr. Phil, where she advised a would-be ghost hunter to get real about his finances. She lives with her husband, daughter and co-dependent golden retriever in Los Angeles.

1. It’s been a few years since THE SCORE last touched base with you. Since then free credit scores have become nearly ubiquitous. Has that improved consumer’s understanding of credit and improved their credit behaviors?

Definitely! Just seeing a score seems to make people curious about what they are, how they work and what can be done by consumers to make them better by modifying their behavior. There are still some misconceptions, of course — plenty of people think they only have one score, for instance, when we actually have many.

2. It’s back to school time. What are the mistakes you see most often as parents shop for the season?

The mistake I constantly made was buying too much. Those back-to-school sales can generate a lot of, um, enthusiasm. I’m still trying to use up all the glue sticks I bought when my daughter started kindergarten. She’s in high school now.

I’m not alone, though. We just did a survey which showed that 90 percent of all parents surveyed admitted to splurging, and that half of us buy more supplies than what’s on the list provided by our kids’ schools. We really could save some money by restraining ourselves. And when it comes to clothes, buy the bare minimum. Two-thirds of parents say they splurge on clothes, but it’s better to wait for the sales later in the fall.

3. You wrote a recent column on alternative data and had a unique take in that the traditional scores like VantageScore and FICO still matter. What was your rationale?

People who understand credit scoring also understand how ubiquitous it is, and how it’s built into so many of our financial systems. Credit scores aren’t just used to set rates and terms for loans and credit cards. Scores are used by insurers to set premiums, by landlords to decide who gets apartments, by cell phone companies to determine who gets promotional rates, and by utilities to set deposit amounts. When loans are bundled up and sold to investors, the credit scores of that debt help determine the price, and that’s a huge market. So there’s a lot of infrastructure, and it doesn’t change or adapt overnight. The companies using credit scores have to be convinced that any change in the scores they’re using is worth the hassle and expense of updating. Just getting companies to update to the latest version of the score they’re already using can take a while.

On top of that, there are a bunch of laws and regulations governing credit and credit reporting. Credit scores have to pass muster with those.

Not all of the people who write about credit scores understand this background. So they hear about some new way that a start-up or researcher is experimenting with measuring credit risk, and they write about it as if it’s already happening or about to. In reality, most of those experiments will fizzle out.

Credit scoring has evolved and continues to evolve, obviously. But it’s incremental.

4. Personal finance reporting has completely shifted and much of the content providers are from outlets like NerdWallet and its competitors. Has this shift impacted what you cover and your approach to providing advice to consumers?

Not really. NerdWallet has a strong consumer-first approach, much like that of the newspapers where I started my career. I’m able to do essentially the same kind of journalism I was doing at the Los Angeles Times, offering sound personal finance reporting and advice. Well, I do have to write a little bit shorter now, since the Associated Press, which carries my columns, wants them to be in the 750-word range. Back in the day, you were basically just clearing your throat for the first 750 words, so I’ve gotten more concise.

5. If you had to look into your crystal ball, what sort of updates do you envision you will have to make to your book, “Your Credit Score: How to Improve the 3-Digit Number That Shapes Your Financial Future”?

In five editions of that book, the only chapter that hasn’t changed is the one about credit scoring myths. I would dearly love for some of those old myths to finally die, especially the ones about whether checking your credit hurt your scores (it doesn’t) or that closing accounts can help your scores (it can’t).

But I’m not sure that will happen. People definitely understand a lot more about credit scores than when I wrote the first edition, but those old myths die hard.

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