What is a credit report?
You are the source of great interest, and profit, of many national companies. These companies, known as “consumer reporting agencies” under the Fair Credit Reporting Act, gather financial and other information about you and millions of other consumers across the country. They use this information to make a profit – that’s right, they sell your information to make a buck.
The FCRA defines a consumer reporting agency as:
Any person which, for monetary fees, dues, or on a cooperative nonprofit basis, regularly engages in whole or in part in the practice of assembling or evaluating customer credit information or other information on consumers for the purpose of furnishing consumer reports to third parties, and which uses any means or facility of interstate commerce for the purpose of preparing or furnishing consumer reports.
These consumer reporting agencies sell your information to businesses and individuals with a “legitimate” need to know something about you. Most often, these businesses are creditors that want to lend you money or otherwise provide you with credit. But, the consumer reporting agencies have many customers that are eager for your information, including prospective employers, landlords, and insurance companies – see the box.
All of these businesses and individuals are trying to decide whether you’re a “good risk” for whatever it is they’re offering to you. If your credit report contains mostly “good” information, then you’ll probably receive the loan or service. But, if your credit report contains mostly “bad” information, then you’re probably not going to get the loan or service.
We’re going to closely examine the information that’s contained in your credit reports in a moment, and then we’re going to talk about how to fix that information – because we guarantee that some of it is wrong. But for now, let’s take a close look at the major consumer reporting agencies.
(As with the term “credit report,” the term “credit bureau” never appears in the FCRA. All of the companies that we typically think of and call “credit bureaus” are in fact consumer reporting agencies. As with the term “credit report,” a “credit bureau” is really a sub-set of consumer reporting agencies that primarily collect, maintain, and sell credit information to third parties, as opposed to information regarding medical or insurance claim histories, for example. For our purposes, we’ll refer to the major consumer reporting agencies as “credit bureaus,” because that is the generally accepted term for them.)
The Big 3
There are currently three major credit bureaus (consumer reporting agencies) that collect, maintain and report general credit information regarding consumers– Equifax, based in Atlanta, Georgia; Experian (formerly TRW) based in Costa Mesa, California; and, TransUnion, based in Chicago, Illinois. These companies now each maintain credit information on more than 200 million consumers nationwide.
Specialized Credit Bureaus
In addition to the Big 3 Credit Bureaus, there are many other consumer reporting agencies that supply “specialized” consumer information to interested businesses and individuals. The FCRA calls a company that collects and maintains specialty information a “nationwide specialty consumer reporting agency.” These companies collect and maintain information relating to (1) medical records or payments (Medical Information Bureau “MIB”); (2) residential or tenant history (ChoicePoint, SafeRent, UD Registry); (3) check writing history (ChexSystems, Shared Check Authorization Network “SCAN”, and TeleCheck); (4) employment history (ChoicePoint); and (5) insurance claims (ChoicePoint and ISO Insurance Services).
These nationwide specialty consumer reporting agencies CAN have a major impact on our life. Fortunately, they fall within the restrictions of the FCRA, this means that you can see the information these companies have about you, and you’re entitled to one free report each year.
What’s a Credit Score?
A credit score is a number that attempts to predict your “credit-worthiness” at any given moment. Officially, it’s supposed to predict how likely you are to become at least 90 days late on payments within the next twenty-four months. Credit scores are calculated using complex, secret formulas that are only known by the companies that produce them (although these companies have given us some general guidance on how they calculate credit scores.)
A company called Fair Isaac Corporation pioneered the use of credit scores in 1956, but they didn’t become widely used by creditors until the 1980’s. Then, in 1995, Fannie Mae and Freddie Mac recommended the use of credit scores in mortgage lending. From then on, credit scores became perhaps the single-most important tool for creditors when offering loans to consumers.
Now, credit scores are even used by insurance companies and other service providers in determining whether, and on what terms, they will offer their services to you. (Personally, we have real problems with the use of credit scores in the granting of insurance and other services. We have difficulty believing that someone doesn’t deserve home or car insurance because they got sick and fell behind on their bills. Unfortunately, we don’t get to set the rules. So, we just have to do everything we can to improve your credit scores so that you don’t have problems with anyone – creditors or service providers!)
There are now many different types of credit scores, developed by different companies, for use in different industries. For example, there are credit scores that are used solely for automotive lenders, credit card issuers, or finance companies. (Some commentators have suggested that, between the different credit scoring companies, there are more than 1000 different credit scoring models currently in use.) But, the most widely used credit score, by far, is the score developed by the Fair Isaac Company, the pioneer of credit scores.
The credit score developed by Fair Isaac is known as a “FICO” score (from the “Fair Isaac Corporation”). To determine a FICO score for a consumer, Fair Isaac developed a formula based on nearly forty different “characteristics” that it claims predict the likelihood that the consumer will repay their debts.
Fair Isaac also groups different classes of consumers according to key “attributes” and then compares a given consumer’s credit file to other consumers in that same group. For example, there may be a group of consumers who have filed for bankruptcy. There may be another group of consumers who have one late payment, and so on. Fair Isaac believes that separating consumers into groups of consumers with common key attributes makes the credit score even more predictive of credit worthiness. This system is called a “scorecard” system.
But guess what? There’s more than one credit scoring model. Sure, there are other companies that have their own credit scoring system (we’ll talk about that in a minute). But, even Fair Isaac has more than one credit scoring model. In fact, they have many different credit scoring models.
The most commonly used model is known as the “Classic” FICO scoring model. This model uses 10 “scorecards” or groups of people with similar key attributes. But, Fair Isaac has also developed another scoring model called “Next Generation” or “NextGen” that uses 18 scorecards or groups. Fair Isaac believes that the NextGen scoring model is even more advanced and predictive than the Classic model. In addition, Fair Isaac has developed enhancements to the Classic model.
So, why should you care about this? Well, it’s a problem for us every day, because different creditors use different credit scoring models. Some may use the Classic FICO. Others may use the enhanced versions of the Classic FICO. Still others may use the NextGen FICO. And the result? Yes, that’s right, different scores.
We may pull a credit score for a potential borrower, and get one score. But, if a lender uses a different credit reporting company for their credit report, it’s very possible that the credit score will be different. So, while the borrower would qualify for a certain loan based on our credit report and score, the borrower may NOT qualify using the lender’s credit report. This can be a real problem for loans that are teetering on the edge anyway. (Some lenders, recognizing this problem, are allowing mortgage brokers to use the credit report and score from “their” credit provider, and will qualify the borrower based on that credit report.)