New FICO Credit Scoring Approach Could Impact College Students

Finance
Posted By Terri Williams on September 22, 2015 at 10:41 am
New FICO Credit Scoring Approach Could Impact College Students

Most college students are young adults who lack an extensive credit history. However, the Fair Isaac Corporation (FICO) recently announced a new scoring method that provides a way for college students and other consumers to demonstrate their creditworthiness. The new approach will take into account other types of debt than were previously used, including on-time payments for utilities, cell phone bills and cable and Internet services.

The FICO Score Chart includes the following five components:

35% Payment History
30% Amounts Owed
15% Age of credit history
10% New credit/inquiries
10% Types of credit

 

The importance of a good FICO score cannot be overestimated. It determines if consumers qualify for car loans, mortgages and other types of credit. A good FICO score can also help consumers receive better credit offers and lower their interest rates. Increasingly, credit scores are also being used by potential employers and insurance companies. But typically, the types of credit measured by FICO were mortgages, installment loans, retail accounts, and credit cards – which many people (especially young people) don’t have.

Almost 30 million people don’t have a FICO score, or they have a very thin credit file, and 10% have credit histories that were created in the past 6 months. These people are all classified as potential credit risks.

Alternative data sources

FICO’s new scoring approach could help these consumers. By expanding the types of scoring data used to include points for timely payments on utilities, cell phones, and cable services, college students and other individuals who lack strong credit histories will be able to start building credit much earlier.

Traditionally, FICO took points off when consumers paid these bills late, but did not give consumers credit for consistently paying their bills on time.

The change is a result of financial lenders who want to extend services to more consumers but need ways to determine their creditworthiness. An additional 15 million people can now be scored.

Win/win or win/lose?

Is this a good or a bad change for college students? Some young adults who are not accustomed to paying their own bills may periodically miss due dates. Other young adults may go overboard when choosing services and end up financially strapped and delinquent on their bills. And these youthful mistakes may come back to haunt them when they leave college.

However, Mark Kantrowitz, the author of “Twisdoms about Paying for College,” cautions students and parents against being overly concerned – at least initially. “The new FICO scoring method, like any change to the credit scores, is being rolled out slowly, so it won’t have a big impact for some time,” says Kantrowitz.

Until the new criteria have been demonstrated to be more predictive of the likelihood of default than traditional credit scores, he says that lenders are unlikely to rely on the new FICO scoring method.

“Currently, most than 90% of new private student loans require a creditworthy cosigner because the student borrower has a thin or nonexistent credit history,” says Kantrowitz. As a result, he does not think the new FICO scores will be an adequate substitute for having a creditworthy cosigner: “Student borrowers will remain a largely unproven asset even with some additional credit history information.”

Terri Williams
Terri Williams graduated with a B.A. in English from the University of Alabama at Birmingham. Her education, career, and business articles have been featured on Yahoo! Education, U.S. News & World Report, The Houston Chronicle, and in the print edition of USA Today Special Edition. Terri is also a contributing author to "A Practical Guide to Digital Journalism Ethics," a book published by the Center for Digital Ethics and Policy at Loyola University Chicago.

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