Ah, the credit score, a three-digit number that inspires the full range of emotions from pride to fear. Understandably so. The credit score is a first-blush indicator of how credit-worthy we are. Our number can determine whether we get approved for a credit card or a mortgage, as well as the interest rate we’re offered.
But looming changes coming to how credit scores are calculated could affect all consumers — from the deeply indebted to prudent spenders.
Under the new system, VantageScore, a company created by the big-three credit bureaus (Experian, TransUnion, and Equifax) is taking over score calculation. You may not have ever heard of the company. But just last year, VantageScore handled about 8 billion account applications. So if you applied for a credit card, their score was likely used to approve or deny you.
Perhaps the biggest change coming to credit score calculation through VantageScore is the use of trended data, a type of data that analyzes a borrower’s debts monthly. Accounting for trended data has long been considered by the credit score industry, and now promises to be implemented on a meaningful scale.
The new shift in credit calculation may give mixed results. A person who consistently pays down debt may now be scored better than the person who has slowly accumulated credit card debt and simply maintains minimum monthly payments.
Folks with high scores may have to adjust their credit maintenance strategy – the gold standard of keeping unused credit card accounts open may now hurt, instead of help, credit standing. In the past, a metric for calculating credit scores was the ratio of available credit in use. For the person with $5,000 in credit card debt and a total available limit of $50,000, they could score better than someone with $2,000 in debt and a $10,000 limit. Those days may be over.
Under the new method, a borrower will now be marked negatively for having excessively large credit card limits. Why? It goes back to trended data. The theory is that person could accumulate high credit card debt quickly. Those who like to play the rewards program points game, beware. Your score could now be negatively affected.
High scorers may take a hit on another front, too. Because trended data seeks to identify warning signs before a borrower gets into financial trouble, there may be new constraints on the amount of credit extended to these credit-worthy people. So, folks may be held accountable today for projected bad behavior in the future.
On the other side, those with low scores could see a benefit from the removal certain credit-plaguing factors, like civil judgments, tax liens, and medical debt. This removal comes after a 2015 agreement between the big-three credit bureaus and 31 state attorneys general. The argument here? Civil judgments and tax liens are often full of errors, and medical debt is sometimes reported before insurance made reimbursement. The result of this exclusion is that people taxed with this debt on their credit reports could see a bump of as much as 20 points.
Current or prospective mortgagees fear not. You won’t be affected. The Fair Isaac Corporation’s FICO score is used for the vast majority of mortgages, and it’s the number on which Fannie Mae and Freddie Mac rely. Few mortgage lenders currently use VantageScore, although that, too, may change in the coming years.
My advice: If you don’t already keep tabs on your credit score, start. You don’t want to learn that your credit score has changed from the credit manager as you negotiate for a new car.