How the New FICO Score Model Will Affect Banks

WASHINGTON — When Fair Isaac Co. announced a new credit scoring model last week, it earned significant media attention and won praise for helping consumers marred by medical debt to boost their scores.

But for bankers, at least, it's unclear just how much difference the new model will make. Several said their underwriters already exclude paid and unpaid medical debt from their calculation if the consumer otherwise has a strong credit background.

"We don't pay any attention to medical debt simply because medical billing is so confusing and it's difficult to tell whether or not the person actually owes the money," said Robert Messer, executive vice president and chief financial officer of the $2.4 billion-asset American National Bank of Texas based in Terrell. "I don't think it will have a huge impact except for lenders who rely totally on the credit score. But for any lender who looks at the actual report, I don't think it will have a big impact because the medical charge-offs don't have much credibility."

The $127.3 billion-asset Fifth Third Bank in Cincinnati has taken a similar stance when it comes to excluding small medical debts from credit score analysis.

"That approach has largely been the same for the way we treat credit scores as well," said Larry Magnesen, a spokesman for Fifth Third Bancorp. "We look at the borrower's ability and intent to repay the debt and we look at multiple factors but typically, when the medical debt is a smaller amount it would not be taken into consideration."

At issue is an updated credit score model, FICO Score 9, launched by Fair Isaac last week, which will exclude certain paid debts at a collection agency and differentiate between medical and nonmedical debt in collection. The new model will lower the impact of medical debt on a consumer's credit score since reports show many consumers are often unaware of such a debt until it hits a collection agency or they seek financing.

Anthony Sprauve, a spokesman for FICO, said it is launching a new model in part because of demand from lenders and concerns by the Consumer Financial Protection Bureau.

"Development for FICO 9 started 18 months ago. That being said, we did talk to the CFPB and lenders to find out what they wanted us to take closer look at," Sprauve said. "Medical debt collection did come up in those discussions."

FICO said the new model could bump up a consumer whose credit score is only marred by a medical debt by a median of 25 points. That amount difference could affect the price of a loan if the borrower was a few points away from hitting a threshold number that would lower their interest rate or make more credit available.

"The changes do expand the ability to lend to some people who may have had trouble getting credit in the past but it would most likely be the people who are in the margins or grey area," said Nessa Feddis, a senior vice president of consumer protection and payments at the American Bankers Association.

Overall, bankers said they did not expect the FICO change to play a huge factor in whether the consumer can get a loan since many lenders have already been excluding paid medical debt from their own analysis. Some bankers did, however, say it might impact the automated systems that trigger pre-approvals or automatic denials based solely on the credit score number, such as with credit cards or auto loans.

"This change of how FICO is viewing unpaid medical bills really doesn't change the actual decisions that are being made by underwriters when it comes to evaluating consumer credit requests," said Barry Harvey, chief credit officer and executive vice president at $12.1 billion-asset Trustmark Corp. in Jackson, Miss. "However, for those institutions operating in an automated credit decisioning environment, the new score may result in more automatic approvals and less automatic declines due to the higher score."

Bankers said it is also going to take while, likely at least a year, for the new model to be implemented. The FICO 9 model would essentially first have to be adopted by the three main credit bureaus and then lenders would buy into it from the bureaus.

"Once a lender decides to buy the new model, you'll probably need to adjust your underwriting and configure your application software to the new score," Harvey said. "So it's going to take a period of time from when the new model actually rolls out to get the banks to see the value and make the necessary software changes, and that is not something that's going to happen overnight."

Another potential hindrance in getting lenders to adopt the new model is that Fannie Mae and Freddie Mac are still using a FICO scoring model that is two systems behind the new one. Bankers typically follow suit with what the government-sponsored enterprises adopt since they are the key players in the secondary mortgage market.

"It's too early to tell how much lift this will receive in the lending industry," Feddis said.

Sprauve at FICO said they are working with the GSEs in the hope that they will validate the new model. FICO will first release the new formula to the three main credit bureaus in September, he said. The bureaus will then test the system against their database before making it available to lenders, likely late this year or early next year.

"And certainly, we're working with lenders to show them the benefits of upgrading," Sprauve said. "This is the first of a suite of scores that we'll be rolling out around FICO 9, so you will be hearing about other types [of model upgrades] in the future."

The timing of launching the new model could prove beneficial for FICO given that many lenders face regulatory pressure from the CFPB. The agency released a report in May cautioning about paid medical debt harming a consumer's credit score.

"A CFPB study recently found that some credit scoring models may overly penalize consumers because of medical debt. Given the critical role that credit scores play in consumers' lives, we welcome steps by industry to adjust how it weighs medical debt in order to be as precise as possible in predicting the creditworthiness of a consumer," Moira Vahey, a spokeswoman for the consumer bureau, said in response to FICO's announcement.

Though most bankers don't expect the new FICO model to have a significant impact on the credit availability overall, they were encouraged by the change because they said it will ultimately improve their ability to determine the borrower's ability to repay a debt.

"The most critical thing is for the credit scoring model to be as predictive as possible," Harvey said. "The more powerful and predictive the FICO score can be, the more banks can rely on it for credit decisions and its ability to predict customer payment performance."