The modern consumer's financial landscape has become a complex web of traditional bank accounts, credit union memberships, online-only bank accounts, investment accounts,
Consumer-permissioned data, or CPD, offers a promising solution for banks to better serve customers by comprehensively understanding their behavior and financial health. This enables more personalized lending offers based on robust data. However, CPD has not gained the traction one might expect despite its potential. So, what's holding it back? What needs to happen to allow it to gain traction?
The development of credit scoring models, such as those by FICO and VantageScore, relies heavily on the historical data provided to credit bureaus to assess creditworthiness. These models primarily focus on loan repayments and credit card usage data and tend to overlook alternative reliable indicators of financial responsibility like rent and utility payments.
The traditional data collection process has significant flaws. Most credit bureaus do not capture alternative data types, limiting the comprehensiveness of credit evaluations. This creates a fundamental "chicken and egg" problem: Without access to diverse consumer datasets, data scientists cannot develop predictive models that incorporate new data types. Conversely, without proven utility from updated models, bureaus have little incentive to collect new forms of data. The result is a cycle where outdated data and methodologies prevail.
Consumer concerns about privacy and data security add another layer of complexity. Between those concerns and stringent regulations, data furnishers and credit bureaus are hesitant to adopt new data practices.
Additionally, the transition to newer models is sluggish. Many financial institutions still rely on older versions of FICO scores despite the availability of more advanced models like FICO 10. This resistance to change is due to the extensive work required to validate and adopt newer models and recalibrate existing credit policies, perpetuating the use of outdated data and methodologies. It's a major obstacle to the broader adoption of CPD; however, it is not insurmountable with the right technology.
Current credit reporting practices, particularly how data is reported to the three major credit bureaus, lead to discrepancies. Not all data furnishers report to all bureaus, resulting in each bureau having different data for the same consumer. In short, consumers' credit scores may vary significantly from bureau to bureau, which complicates financial applications where lenders use multiple sources to pull reports.
The Fair Credit Reporting Act, or FCRA, insists that information in credit reports must be accurate, complete and verifiable. However, it does not require data furnishers to report to all bureaus or specify the types of data to be reported. This results in varying information across bureaus and inconsistencies in credit data.
Federal Reserve Board Gov. Adriana Kugler said traditional datasets are slow and sometimes outdated. She pointed to housing services as a price category that can benefit from private data.
Moreover, integrating new kinds of alternative data into credit reports poses significant operational challenges. Bureaus need robust systems to securely gather, store and handle this data, and they must develop precise methodologies to integrate it into existing credit scoring models. This requires deep statistical analysis and rigorous testing to meet regulatory standards.
Overcoming operational challenges is just the first step. The industry still needs to reckon with silos that result when data — including consumer-permissioned data — only flows to one bureau, leaving gaps in the others. This fragmented approach to credit scoring does not incentivize providers of alternative data to furnish this information across all bureaus, limiting its mainstream adoption by lenders.
So, while banks are fighting fragmentation, consumers are waging their own battle with credit scoring fragmentation. Financial activities that could help increase credit scores and paint a more robust credit picture are not acknowledged across all credit-assessing platforms. Subsequently, many miss out on credit opportunities and face higher borrowing costs depending on which bureau's report a lender reviews — a major disadvantage.
Surmounting these hurdles requires coordinated action from all stakeholders. Credit bureaus must invest in robust systems to securely gather, store and integrate alternative data. Equally as important, they must standardize reporting practices to ensure consistency across the board.
Lenders and financial institutions should allow consumers to report nontraditional financial activities in an effort to adopt and validate newer, more inclusive credit scoring models. Credit scoring companies must explore ways to refine their models to account for and incorporate a broader range of financial behaviors. Regulators play a crucial role by enacting policies that encourage the adoption and use of alternative data while maintaining consumer privacy and security. And consumers must also approach alternative data with a proactive mindset. Adoption can increase if consumers embrace these opportunities by opting into programs that report alternative data, enhancing their credit profiles. These are the necessary steps to creating a more inclusive, error-free and fair credit evaluation system — a system that benefits consumers and financial institutions alike.
The modern landscape of credit data furnishment is marked by significant challenges but also presents opportunities for innovation. By embracing consumer-permissioned data and enhancing the way it is integrated and utilized, banks can create a more inclusive and accurate system of credit evaluation. This approach allows banks to retain sovereignty over their customers, ensuring they remain central to the financial relationship.
With CPD, banks can offer better, more personalized lending options based on robust data, enhancing customer satisfaction and loyalty. This not only benefits consumers by providing a more comprehensive view of their creditworthiness but also enables banks to make better-informed decisions, staying competitive in a choppy and unpredictable financial landscape. By addressing the challenges of modern credit risk modeling and the fragmentation of credit reporting, banks can harness the power of CPD to win in the marketplace, providing superior service while maintaining control over their customer relationships.
