You Default on Your Credit Card and Fair Isaac Forgives you?
The sub-prime mortgage lending practice has caused lots of customers to use their credit cards as the basic source of getting money, taking most part of their incomes to pay for the mortgage. And it is a known fact that when one resorts to a plastic out being short of cash, he or she will default on it one day.
Exactly for the reason of the growing number of delinquencies on credit card accounts and loss of revenues with creditors, Fair Isaac is improving its FICO credit score calculation and is planning to introduce the new formula to all the three national credit reporting bureaus in 2008.
First, it is important to note that the soon coming credit score model will stay much the same as it is today, preserving all the main principles of performing calculation. Banks , credit companies and other financial institutions will still use credit scores to make their lending decisions and determine the price of credit. Some employees will still use scores to grant or refuse a job.
So, credit scores are a determining constituent of one's financial life and the recently expressed discontent on their transparency and fairness from consumers, as well as lenders' doubts about its efficiency as a risk determiner tool have moved Fair Isaac to change its recipe.
So, what's new?
Fair Isaac will tighten the screw for sub-prime borrowers with low credit scores, little credit history or those who are seeking credit too actively and too often.
The new scoring system will penalize cardholders using too high a percentage of their available credit. On the other hand, FICO will be more loyal to those customers who can manage several credit types at the same time. So, a customer who has with a number of credit cards, a car loan and a mortgage, and doesn't default on most of them is considered by a lender a good credit risk.
Then, and it's the key point of model, the new scoring system will drastically reduce one's credit score provided only he or she has gone delinquent on all of his/her current accounts. While this has been a tradition to penalize customers defaulting on at least one of his or her accounts, FICO 08 is introducing a completely new principle. The new system will score a customer higher if he/she has only one defaulted payment with all the rest accounts in good standing. Now, defaulting on one of your loans does not mean a drop in credit score - Fair Isaac forgives you for a one-time mistake!
Thanks to this innovation, lots of credit consumes are likely to see their scores improved rather than otherwise.
But the new scoring model will make it harder for subprime customers and those with little credit history to build or improve their credit file. How? When scoring a person, it will not take into consideration credit card accounts of an authorized user.
So, if you want to polish your credit history through someone else's good credit, it won't work. But it will hurt both, legitimate users like a child using his parent's credit account to start his/her own credit file, and those who piggyback on a stranger's good credit rating.
One and probably most important thing about the new FICO 08 will remain the same - it will continue to consider the length of payment history and the amount of credit debt, the frequency of credit inquiries and the number of credit lines open.
So, you should watch all these factors very closely if you want to maintain your scores at a decent level when the new model comes in.