Medical & Collections Change in Credit Score

FICO Changes Its Credit Scoring ModelThe following information is based upon just two reports on the subject, and, consequently, should be considered a preliminary evaluation of the changes and their consequences in consumers’ lives. As I learn more, suggestions and my views may change.

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Fair Isaac (the pioneer in credit scoring, FICO) announced last week that they have reconfigured their scoring model to significantly change the way medical debts and accounts in collections impact a consumer’s credit rating. Click here for NY Times article.

Essentially, debts listed on our credit reports will have less of a negative impact on our rating while collection accounts of any kind that are paid off in full will be removed all together.

The Benefit

Medical Debt Less Harmful on Credit ScoreThose with medical debts have long voiced their opposition to having such debts adversely impact their credit rating. The argument typically goes, “these debts were incurred through events that were out of our control.” They certainly feel that they’ve been punished for what was typically beyond their control.

Now (or, more correctly, “Beginning this fall…”), medical debts listed on our credit reports will not have the same negative impact that they’ve had before. Whether the debt is from a hospital, doctor’s office, or medical equipment supplier, it will have less of a negative impact on our credit.

Additionally, anyone with a collection account (whether for medical, payday loan, overdrafted bank account, parking tickets or overdue library books, to name a few) will no longer find that paying off their collection account can actually hurt their credit rating. In the past, making a payment on a collection account meant that the account would be reported for an additional 7 years as a negative account in collections. The potential benefit from paying down a debt could be counteracted by the long-term reporting of a negative account.

Now, for those lenders who will be using the new FICO model, such accounts that are paid off in full will not show up at all on the individual’s credit report. Essentially, financial educators will no longer caution consumers against paying off old collection accounts since such actions will involve the positive of paying down a balance without the counter of extending the negative account status for another 7 years.

I think this is particularly beneficial to anyone whose health insurance has ever been late in paying an account that subsequently goes to collections. Once the insurance pays the debt, the account should be removed.

The Problem

The assumption is that anything that is accounted for in a credit rating model has been shown to be a reliable indicator of a consumer’s future credit worthiness. In other words, items impacting our credit rating, for better or for worse, are viable predictors of what level of risk we are to potential lenders. It shouldn’t matter the source of our debt or our collections, if we have accounts in collections or have had them in collections recently, we’re in less of a position to repay future debts. It doesn’t matter whether our current financial troubles come from medical expenses or plain ol’ overspending, the fact is that we’re in financial trouble.

Fair Isaac, I’m sure, will assure its customers (i.e. lenders) that their new model will continue to be a reliable predictor of risk. I hope so.

My Take Away

I’m going to hope this turns out to be the benefit to consumers without being a cave to some well-meaning but aggressive consumer advocates. So long as the credit scoring model remains an accurate predictor of a consumer’s future risk as a borrower, I’m all for it. I’m just wondering why Fair Isaac didn’t do it earlier if this is truly the case.

I’d be interested in your thoughts. Please consider leaving your response to the following question or leaving a comment below.

Thanks, and have a great day!

Todd Christensen-Author of Everyday Money for Everyday People, Todd ChristensenTodd Christensen
Everyday Money for Everyday People
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