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Fair Isaac Corp. said this week tha the next version of its widely used FICO score will no longer consider certain types of credit card accounts, closing a loophole that allowed strangers to coattail on a cardholder’s good credit.
The new FICO score formula won’t include authorized user accounts — users on credit cards who are not responsible for paying the balances but are approved to make purchases with the cards. Often, authorized users are family members of a cardholder, such as college students on their parents’ cards or spouses who have little or no credit of their own.
These types of accounts can improve a credit score if the primary cardholder kept low balances and paid the balance on time over a long period.
Minneapolis-based Fair Isaac plans to introduce the new scoring methodology in September to one of the three major credit reporting agencies: Equifax Inc., Experian Information Solutions Inc. or TransUnion LLC. The other two reporting agencies will receive the update some time in 2008, Fair Isaac said.
The company’s action comes after lenders and industry officials raised concerns over credit renting, a little-known but growing practice that allows people with bad credit to piggyback on strong payment histories of credit card holders.
The person with a low credit score pays a fee to rent a spot as an authorized user on a stranger’s account. The payment for the person allowing the piggybacking on his or her credit history depends on the quality of his or her credit line.
With an augmented score, consumers are able to receive lower interest rates on mortgages, car loans or personal loans. Typically, a higher credit score translates into a lower interest rate on a loan. Although federal authorities have yet to rule on the legality of the practice, lenders worry that if it becomes commonplace, they may unknowingly take on riskier borrowers.
For Fair Isaac, changing its score meant protecting the integrity of its credit scoring system. Ninety percent of the largest U.S. banks base their loan decisions on FICO scores, according to the company.
“We will do whatever it takes to protect the reliability and accuracy of FICO credit scores for lenders, and ensure lenders can continue to use FICO scores with confidence when making their most important customer decisions,” said Fair Isaac Chief Executive Dr. Mark Greene.
Fair Isaac said that the new scoring formula will better predict consumer payment behavior and will require minimal changes to lenders’ operating systems. The FICO score will retain the same scoring range — 300 to 850.
But those college students and spouses who rely on authorized user accounts to build their credit stand to lose that benefit.
Tom Quinn, Fair Isaac’s vice president of scoring solutions, said it was to challenge to find a solution addressing the credit borrowing problem because there was no way to distinguish between family members and strangers due to privacy laws and the Fair Credit Reporting Act.