Why Score At All?

In today's economy, credit scores give lenders a fast, objective measurement of your credit risk. However, it's not as though consumers have been clamoring for some sort of number; so why are we even bothering to go though this process for each loan? In the past, mortgages have been pooled together for sale, with these pools containing a range of credit risks -- all pretty good, but some better than others, and some worse than others. Some borrowers would be more likely to pay off their loans early, and others might fail to make timely payments at all. The securities derived from these pools each carried a vaguely known level of risk to the investor, which made holding and hedging these as a part of an investment portfolio a bit of a tricky business.

Whether you like it or not, big investors and financial institutions control a large part of the direction of the economy. In order to decrease their investment risk, investors wanted to be able to slice and dice portfolios of mortgage loans to add or remove risk (and rewards) to a larger investment portfolio. With known risk, a greater level of performance could be assured. Investors were willing to pay more for a greater level of precision, and began pressing the industry to adopt a means to achieve it. Hence, credit scores; now, a seller can put together a package of loans for sale that aren't from a wide muddy pool of credit risks, but rather from a very specific kind or kinds of borrowers, all with scores which are close together. In conclusion, if you have an excellent credit score of say, 740, lenders percieve you as a low-risk borrower. When you attain a mortgage loan, that loan is grouped with other people who also share an excellent credit score and have mortgage loans. All the "excellent credit (low risk)" loans are placed in a portfolio and sold on wall street to other investors.

Who Really Benefits

Credit scoring is actually a good idea, at least on paper, and some ways in practice, too. The now obsolete, sub-prime lending industry (for borrowers with not-so-good credit) could not have been developed without it. Certain borrowers have seen an explosion in the credit available to them, with more competitors vying for their business, lower rates and more choices in product. It's safe to say that thousands of homeowners have credit scoring to thank for their chance to get a mortgage. Credit scoring is helping to make loan approvals faster, simpler and more convenient for all kinds of loans. At least so far, however, only folks at the bottom of the scale have seen significant "rewards" for the adoption of Credit Scoring on a wide basis in mortgage lending.

What's Bad About Scoring

In a word, secrecy. In the bad old days of mortgage lending, you may have been judged by a person or committee who used some subjective process to evaluate you, a process which may have been arbitrary. You didn't know what they wanted to see in a borrower, so you applied and hoped. Especially in the last 20 years, more and more light has been let into the underwriting process, and that knowledge turned into power for the consumer. Knowing where they stood in a lender's eyes, potential borrowers went from place to place in search of better deals, or could try to extract a better deal from the originator they chose.

Once pricing and underwriting were determined by credit scores, much of the leverage achieved by consumers was returned to the lender, and credit scoring became a high-tech way to draw a big, black curtain between borrower and lender. Since the score information could not be released to consumer (by contract in some cases), the power in pricing returned to the lender. Armed with a score, the lender knows precisely who you are... but you no longer had any idea exactly how good or bad you appear to him or her.

For some loans, lenders have stopped even providing rate quotes when you call. They want you to fill out an application first, so they can extract a score for you, knowing full well that once you've applied (and perhaps paid a fee) you're less likely to go elsewhere.

Today, although you can get a copy of your credit report at no cost once each year, accessing your credit score usually means you'll have to pay to do so.

Why All the Secrecy, Anyway?

It had long been a competitive stance by Fair, Isaac not to release scores and especially the components which influence a score. It's simple enough to understand that once that Fair, Isaac proved that scoring works, that other competing models would be developed, especially by the credit bureaus.

But there's a good reason why they have resisted telling consumers about their scores and what goes into them. All scoring models depend upon consumers going about their business as usual, paying or not paying bills on time, opening lines of credit and getting credit cards as they normally would. If you knew that closing out a Visa account you barely use might raise your score by some amount, you would close it. That change in behavior, repeated millions of times (and across the various kinds of credit weighting) would distort or destroy the model, rendering the score and scoring process worthless.

FICO has always maintained that revealing the score to a consumer would merely confuse them even further, and that the score by itself isn't useful without proper understanding of the process. To that end, they've developed a number of products you can pay for or subscribe to in order to discover or monitor your credit score, but they aren't free.

Scores Cause Overcharging?

Because you may not know how you appear to a lender, you might be charged far in excess of what you might otherwise pay. In this way, Credit scoring may have helped foster "predatory lending", a situation where a borrower -- especially a less-sophisticated borrower -- may fall victim to an unscrupulous lender or broker. This can occur especially in cases where a borrower fails to shop far and wide for a loan, and happens largely in lesser-educated areas, and among the poor and elderly.

While the borrower might have pretty good credit, the salesperson might only offer them loans with high rates, fees, or both; not knowing that they might do far better elsewhere -- and lacking both the score information and understanding of the process -- the borrower signs on for the loan. If the borrower had access to his/her score and a little knowledge of the lending process, they could search more aggressively.

The secrecy which has surrounded credit scores is inherently anti-consumer. This situation seems to have improved over time but concerns about placing "good" borrowers into "bad credit" or more expensive loans are still with us, as are "predatory lending" allegations. These arguments are begun anew with each year's releasing of Home Mortgage Disclosure Act (HMDA) data. Borrowers should have the right to know how a potential lender sees them and have an opportunity to present themselves in the best manner possible.

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