On January 23, the Fair Isaac corporation announced the pending release of its new scoring system, FICO® Score 10 Suite. Characterizing the new version of its flagship credit scoring system as a tool that “gives lenders unparalleled flexibility and predictive power to make more precise lending decisions,” the company says the product will be available in the summer.
How is the New FICO Score Different?
According to an analysis by Consumer Reports, the principal difference in the Score 10 suite and previous version of the FICO scoring system is its increased reliance on 24-month usage trends rather than shorter-term snapshots of a consumer’s credit. Citing the higher predictive value of trending data, FICO estimates that lenders will be able to reduce their default rates on credit card accounts by 10 percent and reduce the rate of defaults on auto loans by around 9 percent. But the big impact, according to FICO, will be for mortgage lenders, who may expect the new system to shave as much as 17 percent off the default rate for newly originated mortgage loans.
While the new system is unlikely to be fully implemented in the short term (most lenders are still using FICO 8, issued in 2009, because of the cost of upgrading), prudent consumers should begin now to assess their credit usage in light of the new scoring. Some analysts predict that FICO 10 could lower credit scores by as much as 20 points for some 40 million consumers, according to a report in Forbes.
What Does This Mean For You?
What does this mean for the consumers who are our clients, and how should we be advising them? In the case of my niece and her new husband, who are in the process of buying their first home, the FICO score is a matter of immediate importance. We have been working together on a plan to trim their student debt balances in order to boost their score closer to the 740–799 “very good” range, entitling them to more favorable interest rates and other terms. Because the new system will be looking at a longer history than previously, now is the time to start guiding our younger clients — who are still in the building phase and often working toward a first home purchase — to get control of and reduce their debt.
Here’s what we need to be telling our clients to help them get ready for the changes coming with FICO 10:
1. Know your score and make sure your report is accurate.
Everyone is entitled to one free report each year from each of the three principal agencies (Equifax, Experian, and Transunion). It is not unusual for loans to appear on your report even after they are paid off. Debts of ex-spouses can also create inaccuracies. If errors like these are causing you to have a score of 690 instead of the 700 you really deserve, they’re costing you money in higher interest payments.
2. If possible, pay your balances down before the monthly due date.
Especially now, when most lenders are still using earlier versions of FICO, that monthly snapshot has a big impact on your score. Reducing your debt balance earlier in the cycle increases your chances of a more photogenic image for prospective lenders.
3. Pay on time.
Thirty-five percent of your credit score is based on your payment history. If you can’t pay the full balance, at least make sure your minimum payment is prompt.
4. Reduce debt balances.
Along with payment history, credit usage as a percentage of available credit is a major factor in your score. Avoid maxing out cards, and consider applying extra money such as bonuses or gifts toward reducing your balances.
The bottom line on the FICO 10 Suite is that those who are already managing their credit well will probably see an increase in their scores, while those with late payments or high credit usage are likely to see a drop. All this only increases the importance of the message to work proactively with your clients to reduce debt, increase cash flow, and save more. It’s yet another subtle way to bring additional “value add” to your relationship with them and their bottom line!
And remember, “Never spend your money before you have it.” —Thomas Jefferson
Stay Diversified, Stay YOUR Course!
