FICO 08 Credit Scoring Presents Changes, Challenges

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Bills.com helps consumers understand new system

Fair Isaac Corporation, developer of the original FICO score method of rating consumers' credit histories, has unveiled a new version of the formula, called FICO 08, that changes the way scores are calculated and brings new challenges to consumers.

Each of the three major credit reporting agencies - Equifax, Experian and TransUnion - reports consumer credit scores, which are numbers between 300 and 850 that measure an individual's creditworthiness based on credit history. Each of the three calculates their own score, although in some cases, they will borrow from the FICO formula.

"FICO 08 is intended to help lenders better gauge actual risk by better differentiating good customers who have made one mistake from people who have multiple delinquent accounts," said Ethan Ewing, president of free online consumer portal Bills.com. "Ultimately, FICO 08 aims to help lenders better identify people who are most likely to default on loans. This new credit scoring template has both positives and negatives for consumers."

The positive

First, the good news, Ewing said. FICO 08 presents several positive changes for consumers:

1.    Authorized user status cleaned up. In the past, credit rating for spouses who did not have their own credit cards, but were "authorized users" on their husband or wife's card, was based on joint history. But a few years ago, some companies started to rent "authorized user" status -- charging people with poor credit to "borrow" the credit rating of someone with good credit. The practice skewed credit for those individuals, and FICO considered eliminating credit based on being an authorized user. Because authentic authorized users protested vigorously, FICO 08 will instead tweak the system and retain authorized users' credit.

2.    Small problems hurt less. Individuals who have had a small debt (less than $100) go to collections will not feel as much impact from that collection process. "Previously, if you missed a $25 parking ticket, or you moved and the dentist sent your bill straight to collections, it could turn into a negative mark on your credit," Ewing explained. "While FICO 08 is not a license to run up bills, individuals will not pay as severely for a misunderstanding under the new template."

3.    Big picture matters more. With the older system, one big problem, such as a vehicle repossession, could torpedo a credit score. Now, if all other accounts are in good shape, one serious issue will not matter as much.

The negative

Along with the good, FICO 08 presents some challenges to individuals:

1.    More impact from less credit. Available credit will be a greater part of credit scores. Credit scores have always evaluated how much credit is used as a percentage of available credit. But now that figure will weigh more heavily into the overall score. "This change is especially important now, because some creditors are lowering credit lines, reducing the total amount of credit available," Ewing said. In addition, having fewer open and active accounts will have a negative effect on the score.

2.    A mix of accounts is needed. Credit scores will benefit most from a mix of credit cards and personal loans. If you have student or auto loans, the combination of loan types will help a score.

3.    Closed and unused accounts hurt. "If you are paying off debt, closing those cards can decrease your credit score," Ewing cautioned. "Rotate the one credit card you use (and pay off monthly), or set cards aside so you are not tempted to use them, but do not close the accounts. And if a creditor closes your account - they must notify you 30 days in advance - call to ask that they reverse the decision." To keep cards active, have a monthly bill, such as telephone, charged to a card. Set up an automatic payment or a personal reminder to be sure you do not miss a payment.

"While the formulas used to calculate your credit score have changed, the main elements of a good credit score remain the same: using a variety of credit options, maintaining low balances that keep plenty of credit available, using credit responsibly and paying all bills on time and in full," Ewing said.

About Bills.com (http://www.bills.com)
Based in San Mateo, Calif., Bills.com is a free one-stop portal where consumers can educate themselves about complex personal finance issues and comparison shop for products and services including credit cards, debt relief assistance, insurance, mortgages and other loans. As the online portal to Freedom Financial Network, LLC, the company has served more than 50,000 customers nationwide since 2002 while managing more than $1 billion in consumer debt. Its RSS feed is available at http://www.bills.com/news_releases/.

Bills.com holds the No. 257 spot on the Inc. 500 list for 2008, and the No. 3 spot on Entrepreneur Magazine's Hot 100 list of the fastest-growing U.S. companies. Company co-founders and co-CEOs Andrew Housser and Brad Stroh were named to the Silicon Valley/San Jose Business Journal's "40 Under 40" list in 2008, and were recipients of the Northern California Ernst & Young 2008 Entrepreneur of the Year Award.

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Aimee Bennett

Ethan Ewing
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