FICO® Scoring Includes Authorized Users Once Again

by Michelle Vullo Pastor, MBA, Accredited Financial Counselor   

As credit becomes more difficult to obtain, it's important to stay current on the behind-the-scenes practices of lenders, credit repair companies and credit scoring organizations. If you're not up to date with terms like "FICO 08," "piggy-backing" and "authorized users," you'll want to keep reading.

We all know that a good FICO® score can equate to a low interest rate on a loan. But what if you're just starting out and have no credit history or have less-than-stellar credit? You may not even qualify for a loan. In response, lending companies started allowing consumers to add children or spouses to their credit account as an "authorized user." These individuals were allowed access to the credit account and to, in essence, share the credit history and improve their credit. Once these individuals are put on the account of someone with a better payment history, their scores could rise as much as 400 points.

This was a very appealing practice as it became a win-win situation. It allowed the child or spouse to share the same credit record as the primary account holder, and the holder could choose whether or not to give access to the account via a credit card. Later, if the holder had the misfortune of losing his job and falling behind on payments, the authorized user could choose to be taken off the account with no damage to his or her own credit rating.

But some companies began to exploit the system with a controversial practice to improve credit that became known as "piggy-backing" or "credit renting." Credit repair companies acted as a middle man to connect an individual with a good credit record to one with a questionable credit record (the companies would also charge thousands of dollars to make these connections). The more an individual paid, the more stellar credit lines he would piggy-back. This practice was questionable, although not illegal, and tricked many lenders into approving very risky loans at low interest rates.

Last summer, FICO tried to crack down on this shady practice by altering its credit calculation models to eliminate authorized-users in the calculations altogether. Unfortunately, this created collateral damage, prohibiting as many as 50 million consumers from legitimately building their credit history through the authorized user credit practice.

After a lot of pressure from both credit companies and consumers, FICO announced that it has found a way to include legitimate authorized users in the credit-scoring model while weeding out the "piggy backers."

"This breakthrough resolves an industry problem that we know has perplexed lenders and concerned regulators. We have developed technology that will reduce any impact on the FICO 08 score from intentional tampering, while allowing the scores of spouses and other genuine authorized users to benefit from their shared credit experience," said Lisa Nelson, Vice President of Global Scoring for Fair Isaac.1

Accounting for legitimate authorized users in the credit scoring process is not the only change that FICO made. Another new feature of FICO 08 is in the way the model will calculate consumer's payment patterns. In the past, any delinquency in payment of over 60 days would negatively affect the FICO score. This new model will be more forgiving if you are delinquent more than 90 days on one account but are in good standing in other areas.

Fair Isaac predicts the two changes to their model will reduce the default rates on consumer debt by 5 to 15% for those companies switching to the new model.2

FICO 08 is expected to make its way into the credit scoring process later this year. The model replaces the existing FICO model, which has remained relatively unchanged since the 1980s.

"The changes in FICO scoring should be rolled out in several weeks. The company is working closely with credit reporting agencies to introduce it as soon as possible.

While we're on the subject of authorized users and credit, it's important to note that the Equal Credit Opportunity Act of 1974 requires issuers to report payment history data of authorized users. Unfortunately, this only applies when the user is the account holder's spouse; children are not covered under this act. Account issuers can decide whether to report payment history data for all other authorized users or for just the primary account holders.

So, if you're considering placing a child onto your account as an authorized user, you should first ask the issuer if authorized-user data gets reported. If the issuer doesn't report authorized-user information when that person is not a spouse, it may be better to add the child as a joint accountholder instead. Keep in mind, though, that both parties are now responsible for the debt.3

Footnotes
1 "Fair Isaac Innovation Will Restore Authorized User Accounts to Calculation of FICO 08 Scores," PR-inside.com, August 1, 2008
2 "Understanding FICO 08," Money-Zine.com
3 "FICO 08 will score authorized user accounts," Bankrate.com, August 12, 2008