Credit Score Issues and Controversies
Although credit scoring is considered to be a good system of rating a person’s reliability with money, it is still a system with many glitches and delays that just won’t go away. Furthermore many of these “ghosts in the machine†work more to the lenders and credit bureaus’ advantage then they ever will to the borrower’s advantage.
Here is are rundown of the issues and controversies that surround credit scoring –
Credit Scoring and Errors
The math that is used to calculate your credit score can be devastating to your credit rating if the information it is based on is wrong. Unfortunately most credit reports are riddle with errors. Usually the errors are small such as misspellings of employer names. Other times the problem is huge, such as is the case when your credit file contains delinquent records that don’t belong to you.
Unfortunately most people don’t discover that they have an error in their report until they are turned down for credit.
The sad truth is that the credit bureaus handle billions of tiny pieces of data about billions of people every day so it is inevitable that errors will happen. However it can be a very difficult and bureaucratic process to get an error removed from your credit report as the system is designed to discourage you from even trying.
The reason the system is so hostile to you, the borrower is because you are not the preferred client of the credit bureau. The credit bureau desires that its employees of the credit bureau don’t do anything else but work in the service of their paying clients – your creditors. These are their bread and butter clients who pay them to check into your credit history as well as to filch your personal information for telemarketing, direct mailing and credit card offers.
The only reason a credit bureau is they are required to deal with you is because of The Fair Credit Act of 2003. You are not a paying customer now you are allowed one free credit report a year, which is why any inquiry into a credit bureau is often met with a less than enthusiastic response.
Furthermore as things currently stand, you could go your whole life without a human being ever seeing your application or noticing that something is wrong in your credit report. This has caused an explosion of identity theft that has resulted in more misinformation being included in people’s credit files than ever.
It is estimated that approximately ten million people are year are now victims of identity theft.
Faulty Credit Scoring Calculations
Financial experts say that the main problem with FICO scores is that the formula that creates them is too complex. This creates an unpredictable model that makes it hard to forecast what the credit score might end up being. In fact it is not uncommon at all for two different lenders to calculate the FICO score for an applicant using identical information and arrive at two completely different numbers!
Sometimes the difference in this final figure can be as much as 30 digits which is a large enough of a difference to impact whether or not you may be able to get a loan or not. Unfortunately when it comes to credit, the lender usually has to play it safe and go with your lower score as being the true representation of your credit situation. This means that you could be turned down for that loan you so badly need.
One of the problems that plagues the entire lending industry is that there is more than one formula for calculating a FICO score. Of course more styles of scoring are also being invented by Fair Isaacs every day. The invention of new systems by FICO became necessary as the result of the exposure to FICO methods by E-Loan and the passing of the Fair Credit Act in 2003. One of their latest projects is a credit scoring formula already in action called the NextGen score.
Yet another issue is that certain lenders may have an in-house FICO score calculation that may arrive at a much different credit score then the one that is depicted in your Equifax, Experian or Transamerica application.
Unfortunately the above complexities causes lots of confusion for lenders and borrowers by transmitting mixed messages about your financial security and reliability.
The Use of Credit For Other Decisions
As a credit report is so often full of errors, many people questioned whether or not it should be used to support decisions that have nothing to do with credit. For instance, should landlords and insurers use the credit to determine the measure of your character?
Perhaps the most controversial is how insurance companies use your credit reports to find out information about you. They see a strong link between your likelihood to default on a loan and the likelihood you will ever file a claim. Apparently a large study was done that discovered a real correlation between bad credit and a predilection towards garnering insured losses.
As a result more than 90% of homeowner insurance and auto insurers use your credit score to decide how much to charge you a month for premiums and whether or not they should cover you at all.
The Non Discriminatory Bestowal of Credit
The entire point of developing a system that described people’s financial situations using a number was that it was supposed to prevent discrimination and unfair practices. In theory, credit scores are supposed to have nothing to do with your race, income, religion, ethnic background, disability or anything else that is not usually detailed in a credit report.
Still there are those who would maintain that a credit report does exactly the opposite as some disadvantaged groups suffer indiscriminately as the result of credit scoring. The theory is that people who have low incomes, who live in minority neighborhoods have less access to the mainstream lenders whose comments on a credit report bear so much weight. This means that their information never ends up on a credit bureau’s report.
Disadvantaged and minority populations tend to use lenders who do not bother reporting to credit bureaus – fiancé companies, sub prime lenders that charge high interests and loans proffered by community groups. The fact that these types of organizations do not report to credit bureaus makes it more difficult for anyone who borrows from them to build a credit history.
Given all of the potential problems with credit scoring, it is understandable that some people will think the system is fatally flawed. However, flawed or not, credit scoring is a necessary for the world to go round, just like death or taxes. Most of us need credit to launch a new business, pay for a home or go to school.
The bottom line is that improper credit can be disastrous but the proper use of credit can be a blessing that enhances your life. Hopefully the next few chapters will give you the knowledge about credit that you need in order to help you master control of your financial life.