New FICO Rules May Affect Millions

My last blog post was about how to take full advantage of becoming an authorized user. About 60 million consumers are authorized users on someone else’s credit card. But, that is all about to change. My previous blog post is pretty much obsolete now thanks to FICO’s new scoring model. Read about that and other changes below.

New FICO Rules May Affect Millions
By Vicki Lee Parker

Monday, June 18, 2007

In September, the FICO credit-scoring system is set to undergo a major overhaul. Fair Isaac Corp., the Minneapolis company that creates the formula used to calculate the score, is downplaying the change, saying it won’t have much of an effect.

I beg to differ. Any change in the way that scores are decided affects millions.

Forty of the top 50 financial institutions in the country rely on FICO scores to determine whether to approve a loan and what rate to charge. Retailers, landlords, insurance companies, employers and utilities also use it to decide how to do business with you, or if they should.

Because Fair Isaac doesn’t want rivals to copy its formula, it isn’t giving out many details about the changes, but spokesman Chris Watts did say this:

Fair Isaac divides the population into 10 segments based on credit history and applies a different formula to each. Eight segments include people with good credit and two are for people with serious problems.

Under the new system, the population will be divided into 12 segments: eight for people with good credit and four for people with bad credit. That could result in a slight change up or down in many scores.

“This new system will give lenders more dependable scores for those higher-risk consumers and those who have little history,” Watts said.

Now, that’s not really a bad thing if your credit is pretty good, but if you’re on the margin or trying to establish your credit, it could mean trouble. Because businesses interpret scores differently, a slight change could be the deciding factor in whether a landlord decides to rent to you or whether your bank decides to increase the interest rate on your mortgage or home-equity loan.

For example, according to Fair Isaac’s Web site (MyFICO.com), the difference between a score of 620 to 659 and one in the range of 660 to 699 can result in a $163 difference in the monthly payment on a 30-year mortgage.

Watts conceded that certain groups will feel the effect far more than others. People with thin credit histories or poor credit will likely see their score jump or drop significantly, he said.

As it goes with most changes, there are some people who are going to be hurt through no fault of their own.

One adjustment to the current credit scoring system will be to stop giving credit points to people who are authorized users on someone else’s credit card.

That change will affect about 30 percent of people with credit reports, or about 60 million consumers, said John Ulzheimer, president of educational services for Credit.com and a former manager for Equifax and Fair Isaac.

That change is going to affect young adults trying to establish credit by attaching themselves to their parents’ credit cards; spouses — mostly women — who are authorized users on the family credit card; and people who are trying to re-establish credit by coat-tailing a family member’s good credit history.

Fair Isaac has closed this loophole because the lending industry has complained about abuses and said the loophole was distorting borrowers’ true credit risk.

So what can consumers do?

First, those who became authorized users to help build up credit should consider switching to a joint account. That will allow the joint member to continue to reap the benefits of the primary cardholder’s strong credit history.

However, that option poses more risks to the primary holder of the credit card. For example, if an authorized user abuses the card, the primary cardholder simply has to make a phone call to revoke the user’s card. But it’s not as easy to remove a joint user. The primary cardholder would have to close the account and open a new one to remove the user from the account.