Credit probes go beyond scores

As posted on September 14, 2011 on www.ajc.com

The next time you seek out a loan, apply for a store credit card or maybe just sign up for a cellphone, the companies you do business with might take a deeper look at your credit history than you know.

More lenders are now probing consumers’ personal financial data in ways they didn’t in the run-up to the Great Recession, industry experts and consumer groups say. And they’ll likely rely on a lot more information than a traditional credit score.

The moves, driven largely by regulatory changes, could open up credit opportunities for some borrowers. Consumer groups, though happy about lending reforms, are wary about the way data might be handled.

Data companies beyond the Big Three credit bureaus (Equifax, Trans Union and Experian) are compiling information about consumers’ job history, income and net worth that lenders can use to verify whether borrowers are as safe or as risky as their scores suggest.

The new data goes far beyond the information included in a traditional credit check and is more revealing than a credit score.

One of the brutal lessons some lenders learned after the economy ran into a ditch nearly four years ago was that they didn’t really know whether their borrowers actually could or would repay when times got tough.

Consumer advocates agree lenders should take greater care, but they question the accuracy of these new databases. They worry improper conclusions could actually hamstring some credit-worthy consumers’ ability to get loans.

For some small loans, the thinking used to be that looking beyond a customer’s credit score wasn’t worth the cost.

Under new laws such as the Credit CARD Act, lenders are required to verify consumers’ ability to repay loans. Credit agencies are responding to the new demand for personal information by offering it separately from the traditional credit background and score.

Some borrowers will notice the difference. Getting a mortgage has become more document-intensive post-recession and with good cause. Some purveyors of exotic and subprime loans in the housing boom doled out loans seemingly to anyone with a driver’s license.

But experts say a growing number of credit providers are quietly scrutinizing consumer data seldom considered before.

If the Great Recession taught businesses and consumers anything, it’s that more diligence on borrowers is prudent, experts and consumer groups say.

“This will open the door for consumers,” said Stuart Pratt, president and CEO of the Consumer Data Industry Association, the trade association for the Big Three credit bureaus and other data companies. The new verification systems are a response to financial regulatory changes, he said.

Credit options might expand, but consumer advocates worry the new number-crunching could hurt some borrowers.

“We’ve known for years that credit bureau reports are not as accurate as the bureaus think they are,” said Ed Mierzwinski, consumer program director at U.S. Public Interest Research Group.

The accuracy of credit files is widely disputed. A 2009 report by the National Consumer Law Center said estimates of serious errors in credit reports range from 3 percent to 25 percent.

The trade industry for the reporting bureaus disputes those figures. A report issued this year by the Consumer Data Industry Association and Policy and Economic Research Council found potential errors in 19 percent of sampled reports. But only in about 1 percent of those errors was the problem significant enough where a borrower might receive less favorable terms on a loan.

Credit reporting agencies manage the largest databases on earth, Pratt said, “and they manage [that data] very well.”

The major bureaus each have 200 million U.S. credit files and an error rate of 1 percent would amount to 2 million people per company, said Chi Chi Wu, staff attorney with the National Consumer Law Center in Boston.

Credit reports fall under the Fair Credit Reporting Act and consumers can challenge entries they believe to be in error. The credit bureaus and many other data-gatherers are regulated by the Federal Trade Commission.

Consumer groups hope a newly formed regulatory body, the Consumer Financial Protection Bureau, could end up regulating credit reporting companies.

Past predicts future?

Credit scores are used to predict how likely someone is to repay a loan given past behavior. The higher one’s score, the safer they are as a borrower.

For being a safer bet, a borrower gets better loan terms such as a lower interest rate. Consumers with lower credit scores, denoting more credit risk, might be rejected for a loan or pay a higher interest rate.

The scores generally balance payment history, outstanding debt, how long a borrower has had established credit and the types of credit — mortgage, credit card, auto loan — one has.

Mierzwinski, at U.S. Public Interest Research Group, said credit scores were not good predictors of behavior for people with unpredictable incomes, such as employees in sales, marketing or construction, many of whose scores soared in the housing boom but crashed in the recession.

New-look consumer files may take into consideration job history, net worth and income. These are separate from one’s credit score and the data used to verify ability to repay could come from public records or information borrowers authorized their employers to release to lenders.

Equifax, the Atlanta-based credit bureau, is branching into new frontiers of credit reporting, with products that offer varying degrees of new consumer information.

The company made a string of acquisitions during the recession and now holds data about tens of millions of Americans’ job history, income and assets.

Traditional credit reports sold to lenders and consumers remain a cornerstone of Equifax’s business, but the company can parse and sell separate reports based on information such as how much money borrowers actually make, where they’ve worked and net worth.

These new reports give lenders a clearer view of an individual’s credit worthiness, Rick Smith, chief executive of Equifax, said in a recent interview.

Credit scores for years reliably predicted whether a prospective borrower would sink or swim in the credit pool, industry executives say. But when the economic storm turned into a 500-year flood, for some the score wasn’t as accurate at predicting risk.

Not all borrowers, even ones with an ultra-low-risk rating of 800, for example, lived up to their score.

“It quickly became apparent in the Great Recession that past behavior was not going to be as good an indicator for future behavior,” Smith said. “Things change. Unemployment went from 4 1/2 percent to 10 1/2 percent.

“Is [unemployment] going to be a factor in your ability to repay? Absolutely.”

Credit scores remain the most common product Equifax sells, but the company’s suite of new consumer report products is being marketed to, among other firms, banks, mortgage companies, auto dealers, utilities and collections agencies.

Automated world

Automated credit underwriting has been around for years. Store credit cards, cellular phone service and other services or transactions that are based on credit history are approved within minutes thanks to this automated screening.

Even approval of mortgages, at least during the boom, was shortened for many borrowers from weeks to a matter of days.

These new tools, experts say, will help providers of small lines of credit make better credit decisions and reduce fraud.

“There’s a lot of people current on bills that might only have $6 in the bank,” said Ed Sibbald, a former banker and director of the Center for Financial Excellence at Georgia Southern University.

It’s also cheaper for companies than manual underwriting.

Banks’ standards for mortgages have become much stricter. Documentation of income, tax returns and assets has increased since the financial crisis, said Wu, the NCLC attorney.

But many types of credit — such as credit cards, car loans and mortgages — still aren’t examined on the personal level they once were. Wu said a credit card issuer in the 1990s called her employer once to verify an application. It sounds quaint now.

“One of the causes of the crisis was the failure of underwriting,” Wu said. “Why not ask the consumer, ‘What’s your income?’ and if you have doubts, get the documentation?”

Automated approval isn’t new and neither is databasing.

Over the years, most Americans’ financial and personal data has accumulated electronically somewhere. Credit histories and rental histories have been used for years by landlords to determine if a prospective renter is reputable.

Companies such as Alpharetta-based ChoicePoint have millions of files on property and auto insurance claims. Consumers’ claims history can affect their premiums.

A network of companies track items such as medical and prescription drug history, allowing providers of individual health and life insurance to compare consumers’ files with what they’ve reported on an insurance application.

Opening credit

One of the ways this expanded consumer history can be used is to broaden credit, industry experts say.

Millions of consumers have no credit history or have what is called a “thin file,” meaning there’s little existing data.

Many consumers with cash resources don’t do business with banks, yet pay their bills and rent on time and shirk debt. On paper, they have little credit history, but they could be a valid credit risk.

“It does enhance the lender’s confidence,” said Sibbald, the Georgia Southern professor. “At the margin, more loans would be approved as a result of it ... for the people on the bubble.”

Pratt said additional information “opens the door for the consumer to be more competitive and be given credit” for being potentially a better credit risk than a score dictates.

“I think this is a good news story, not a cautionary story,” Pratt said.