Credit reports will drop several negative factors
Many people with tax liens, civil judgments and certain medical debts on their credit reports could soon see a rise in their credit scores.
On July 1, about half of tax liens and almost all civil judgments — both big negatives — will be expunged from consumer credit files, thanks to an agreement the big three credit bureaus made under pressure from regulators and state attorneys general to improve the accuracy of credit reporting.
In September, the three bureaus — Experian, Equifax and TransUnion — will also make consumer-friendly changes in the way medical debts are reported.
Scoring companies plug information from a consumer’s credit report into a formula and come up with a score that estimates that person’s likelihood of defaulting on a debt. Scores factor heavily in loan approvals, rates and terms. Some insurance companies and employers also consider them, although a few states, including California outlaw or strictly limit their use in insurance and employment.
In a 2012 report, the
Federal Trade Commission found that 26 percent of people surveyed identified an error in their credit reports, although only 5 percent had mistakes big enough to affect loan approval or terms. Most errors were the result of identity theft, lenders or collection agencies providing incorrect information to the bureaus, or the bureaus putting data into the wrong person’s file.
Studies suggest that people with liens and judgments could see their credit scores rise after these items are expunged, generally by less than 20 points but in some cases by 40 points or more. In some cases, scores could decrease. How it actually plays out depends on how lenders and credit-scoring companies respond to the changes.
Lenders who want the missing data could simply ask borrowers on a loan application if they have outstanding liens or judgments. Or they could obtain the information from the public record.
LexisNexis Risk Solutions, which sells public records data to credit bureaus and others, is marketing a new product called RiskView Liens & Judgments Report that, it says, “fills the gap left behind” by the July 1 changes.
Starting on that date, the bureaus will no longer display tax liens and civil judgments on a credit report unless they include the person’s name, address and either Social Security number or date of birth. About half of tax liens and virtually all judgments do not have a Social Security number or birth date, which can cause mixups, especially for people with common names or large families.
The July 1 purge should eliminate this type of misinformation, along with a lot of valid data.
LexisNexis warns lenders to ignore this “highly predictive” information at their peril. It says people with liens and judgments are about twice as likely to default than those without.
What it doesn’t say is that consumers with liens and judgments generally have other derogatory marks in their credit file. People who have a court judgment for unpaid credit card debt might also have late payments, chargeoffs and collection activity in their record, said Chi Chi Wu, an attorney with the National Consumer Law Center.
Removing the judgment alone probably won’t add too many points to their scores. However, if a person has a “crystal clear” report other than a tax lien or judgment and it drops off, that person’s score will go from “better than average” to “really good,” said credit expert John Ulzheimer.
FICO, the leading scoring company, estimated that out of 200 million “scorable” consumers, roughly 12 million will have a lien or judgment disappear from their report. As a result, about 11 million will see their FICO score increase between one and 19 points, and 1 million will see a bigger rise.
About 700,000 will see a jump of 40 points or more — enough to affect a loan approval or terms. Those are people “who have no other negative credit information on their file,” said Tommy Lee, FICO’s principal scientist.
However, about 700,000 also could see their FICO score decrease when liens or judgments drop off. The removal of public records can shift a consumer onto a different scorecard, which evaluates the consumer on a different set of characteristics, FICO said.
VantageScore, a competing scoring company owned by the three credit bureaus, published a similar study last June, except it assumed that all tax liens and judgments would disappear. Under this ‘“maximum impact” scenario, it estimated that 11 percent of the scorable population would have liens or judgments removed and that 8 percent would see a score increase averaging 11 points.
FICO and VantageScore counts range from 300 to 850. Starting July 1, the credit bureaus also will check lien and judgment data every 90 days to make sure it’s still accurate.
In September, the bureaus will change how they report medical debt, which generally doesn’t show up on credit reports until it has been turned over to a collection agency. “You have medical debt because the insurance company is slow to pay, or because you got sick — not because you are a deadbeat,” said Ed Mierzwinski, consumer program director with U.S. Public Interest Research Group.
Under the new rules, bureaus will not display medical collections until at least six months after the account became delinquent. They also will remove from credit reports any existing medical collections that insurance companies have paid or are paying.
Lee said the medical debt changes will have “virtually no impact” on FICO scores, because medical debts of less than six months and debts being paid by insurance almost never show up on credit files today.
Mierzwinski called the impending changes a “big win” for consumers.
But Ulzheimer said lenders “are losing access to valuable information.” To compensate, scoring companies could adjust their formulas to put more weight on “derogatory information” that remains. “This is great news for people with judgments and liens,” Ulzheimer said. But it could be “bad news for people with maxed out or charged-off credit cards, settlements, repossessions.”
In its study last year, VantageScore said the “predictive performance” of its current scoring model, 3.0, “diminished only slightly” when it ignored all tax liens and civil judgments. But its next model that debuts this fall, 4.0, takes the impending “data suppression” into account. It “relies less on derogatory collections and publicrecords data to ensure that the model will not lose substantial predictive strength,” it said in a news release.
FICO is not making any changes to its formula based on the impending changes. “Based on the study we did ... we found no material loss in the predictive performance,” said Lee of FICO.
That raises the question: If this information doesn’t really impact a person’s default risk, why was it in credit files? No one I spoke to had a good answer.
Another question is how lenders will deal with the loss of data. Ulzheimer said that on large loans — for homes and cars — they might get it from another source, such as the LexisNexis product.
That worries Wu. If liens and judgments don’t have Social Security numbers, she’s not sure how LexisNexis, which had been providing this data to bureaus, can connect it to the right person, she said.
Ankush Tewari, a senior director with LexisNexis Risk Solutions, said, “Our ability to link these records to our consumer reports is highly reliable and accurate. We have LexID, a process by which we link records to consumers.” Everyone gets a unique LexID number, tied to his or her name and address. “We have proved that our linking (process) is over 99 percent reliable,” he said.
Fannie Mae and Freddie Mac, which buy and guarantee mortgages, are making no change to their underwriting criteria as a result of the new credit bureau policies.
To make sure their data are correct, consumers should get a free copy of their credit report from each of the three bureaus once a year at www.annualcreditreport.com. This report does not include a free score. Many financial institutions give customers free reports and FICO scores. Discover provides a free report and FICO score, even if you’re not a customer.