Are We Giving Americans Too Much Credit?
The Fair Isaac Corp., the folks who bring you your credit score, are changing the way that score is calculated to make it a little bit easier to get loans if you’re one of the millions of Americans with bad medical debt on their credit reports.
According to the Wall Street Journal:
Fair Isaac Corp. said Thursday that it will stop including in its FICO credit-score calculations any record of a consumer failing to pay a bill if the bill has been paid or settled with a collection agency. The San Jose, Calif., company also will give less weight to unpaid medical bills that are with a collection agency.
This move will come as welcome news to the Consumer Financial Protection Bureau, which has been complaining about the way medical debt can depress credit scores and make it harder to get loans.
There’s something to the CFPB complaint. Lots of people who are conscientious about paying their loans every month can get tangled up in medical bills; I know someone who got identical bills from two different labs for tests. The second bill got thrown away until -- whee! Collection notice. And unlike, say, credit card bills or mortgages, people don’t knowingly get in over their heads with medical bills. So paid collection may not tell you much about someone’s general ability to handle money; it just tells you that they got sick.
This is probably going to have the biggest impact on financially marginal borrowers. The Journal pegs the potential improvement at “as much as 25 points,” which for people with decent credit probably means 10 to 20 basis points on your loan interest rate. Nice to have, of course, but we’re ultimately talking about a savings that will finance one or two dinners out a year, not “Forget Queens, honey -- we’re moving to Park Avenue!”
On the other hand, for people whose credit hovers in the 500 to 600 range, even small improvements in their credit scores can push them over the cutoffs between subprime and prime loans -- or between getting a loan and getting frozen out of the market. People whose FICO scores are below 660 pay double-digit rates for auto loans, which nearly guarantees that they will have ongoing credit problems as they struggle to make those payments. Meanwhile, people whose FICO scores won’t qualify them for a Federal Housing Administration loan or don't meet Fannie Mae/Freddie Mac standards basically can’t get any sort of mortgage at all. This change will make credit cheaper -- but it will also mean that more people take on loans.
That in itself is an interesting development. Ten years ago, politicians were pressing hard for banks to extend the precious boon of homeownership to every man, woman and shell corporation in America. Five years ago, when people were pushing for something like the CFPB, the focus of the public debate had dramatically shifted toward protecting people from credit. Oh, there were complaints about the cost of subprime loans, but ultimately, on most of those loans, the problem wasn’t the interest rate but the principal: Too many people had taken out loans that they could not realistically afford to pay, especially if anything at all went wrong in their lives, from a job loss to a divorce to an unexpected illness. And so you heard a lot of complaints about predatory lenders who gave people more credit than they could handle.
Credit has tightened considerably since then, and now, it appears, we’re unhappy with that. We want cheaper, easier credit for everyone, and particularly for the kind of financially struggling people who have seen their credit scores pummeled over the last decade. And so we see the CFPB pressing FICO to go easier on people with satisfied collections.
That’s not to say that the CFPB is wrong; I don’t know what the ideal amount of credit is in a society, or whether we are undershooting the mark. What I do think is that the U.S. political system -- and, for that matter, the U.S. financial system -- seems to have a pretty heavy bias toward credit expansion. Which explains a lot about the last 10 years.
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