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June 14, 2022
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More consumers may gain access to once-unobtainable financial products if lawmakers open the door to new data sources for credit scores. Here’s how smaller data providers can do their part and remain compliant with federal regulations.
The FICO score has played an integral role in the financial lives of American consumers since its introduction in 19891. As a measure of creditworthiness, those with higher FICO scores typically have more opportunities to obtain traditional financial products such as loans, mortgages and credit cards. Others struggle to gain access to the credit ecosystem.
But there’s long been a chicken-and-egg conundrum with the score methodology. The three national consumer reporting agencies — Equifax, Experian and TransUnion (collectively “CRAs”) — typically generate their scores by reviewing an individual’s payment history on loans, mortgages and credit cards2. But many American consumers do not have sufficient credit to obtain these products in the first place. And without the products, they have difficulty building their relevant payment histories. Approximately 10 percent of U.S. adults experience this “credit invisibility,” according to the Consumer Financial Protection Bureau (“CFPB”)3.
While many people who live outside the traditional credit ecosystem pay their rent and utility bills in full and on time, these types of non-loan payments typically are not factored into FICO credit scores4.
However, proposed federal legislation may one day crack the chicken-and-egg conundrum. The bipartisan Credit Access and Inclusion Act of 2021, currently before both houses of Congress, is intended to encourage landlords, telecommunication companies and utility providers to report full, on-time payments to credit bureaus5. Some studies show that the inclusion of this kind of alternative data can significantly raise certain consumers’ credit scores6.
A TransUnion study found that when rent payments were included in a credit file, some consumers saw their credit scores rise by nearly 60 points. This material increase could open the doors to financial inclusion for more consumers7.
Introducing additional consumers into the credit ecosystem through alternative data will potentially broaden the customer base for traditional lenders as well as entities such as landlords and telecommunication companies. However, providing data to the reporting agencies comes with certain compliance requirements — and potential scrutiny from regulators — of which participating entities should be aware. Here’s what to know.
FCRA Reporting Regulations
Provisions within the Fair Credit Reporting Act (“FCRA”) regulate consumer data collection, maintenance and reporting to the CRAs. Understanding the specifics of FCRA-related policies and procedures, including using standard data formats, record retention, deletion of records, and conducting a periodic evaluation of a company’s own practices, is imperative8.
Under the FCRA, data providers must report accurate information about consumers and perform reasonable investigations into credit disputes received directly from consumers and indirectly through the CRAs9. These disputes require a response within the statutory time frames under the FCRA, which is generally 30 days after receipt10.
The FCRA also requires data providers to perform quality control on the data they send to the CRAs. In particular, the CFPB expects data providers to perform self-audits and monitoring to ensure the accuracy and integrity of the data11. To comply, data providers can take a sample of accounts (also known as tradelines) and recalculate what tradeline should have been reported for the selected month. The sample outcome is then compared to what was actually furnished. Any differences can be investigated to determine the root cause and to assess proper remedial action.
Since constant changes (e.g., changes to regulations, business processes and systems) impact credit reporting, it is also important for institutions to develop processes to operationalize these changes, including updates to policies and procedures, technology, staffing and training. One recent example is regulatory changes stemming from the CARES Act (Coronavirus Aid, Relief, and Economic Security Act) that prohibit reporting negative information due to pandemic-related accommodations12.
Other reporting requirements may be updated annually, such as those to the Credit Reporting Resource Guide published by the CRA industry group13. All data providers, new or otherwise, should engage early and often with their key internal stakeholders to understand and preemptively assess any downstream impact to credit reporting from these changes.
Closing the Wealth Gap
Beyond its health implications, the COVID-19 pandemic impacted many American lives financially, including people facing hardship and potential difficulty in obtaining credit. A Federal Reserve (“Fed”) study found that 19 percent of adults said they either lost a job or had their hours reduced in March 2020, when pandemic-related shutdowns began14. Another 18 percent of adults indicated they did not expect to be able to pay all of their April 2020 bills in full. Among those who lost their jobs, 35 percent anticipated not being able to pay all bills in full15.
Following the initial shock of the pandemic, overall wealth increased in the U.S. between 2020 and 2021, but it was highly concentrated in the top 10 percent of wealth holders16. As the wealth gap widens, the bottom 50 percent will continue to have difficulty obtaining credit via traditional channels. This has contributed to conversations in Congress and the White House around the use of alternative data.
Recently, House Democrats tried including a provision in the COVID-19 relief bill known as the HEROES Act that would delete adverse data reported to the CRAs during the pandemic17. While this is certainly well-intentioned, research has shown that similar data deletion proposals can actually hurt the very same population Congress is intending to help — the underbanked and those in underserved communities18. A study conducted by the think tank PERC found that consumers in low-income households were most negatively impacted by data deletion, with credit approvals falling 37 percent for those in the lowest-income households19. Moreover, the study found that although the credit scores artificially rose, credit approvals declined20.
The speculation for the decline is that when lenders are unable to see a full, accurate picture of a consumer’s borrowing and payment habits, they could hesitate to extend credit to avoid underwriting risk.
Opening the Door Wider
The pandemic exacerbated and highlighted the growing disparities among Americans when it comes to financial inclusion. Regulators and lawmakers now have the opportunity to make a significant positive impact on the financial lives of many Americans who are most in need of them.
Both data providers and CRAs should communicate the importance of alternative data and work with the policy community and third parties to shape how this type of data can bring more people into the credit ecosystem. Those institutions that choose to furnish alternative sources of consumer data should be aware of compliance requirements so they can report data responsibly. Greater awareness of the data’s impact — and compliance — will not only help providers report responsibly, but can also provide a brighter financial future for more consumers.
Footnotes:
1: FICO.com Home Page (accessed February 1, 2022), https://www.fico.com/25years/.
2: “What is Payment History?” MyFICO.com (accessed February 1, 2022), https://www.myfico.com/credit-education/credit-scores/payment-history.
3: Liane Fiano, “3 common credit issues and what you can do to fix them,” Consumer Financial Protection Bureau (April 13, 2018), https://www.consumerfinance.gov/about-us/blog/3-common-credit-issues-and-what-you-can-do-fix-them/.
4: “How to report your rent payments to credit bureaus,” Bankrate.com (accessed February 1, 2022), https://www.bankrate.com/finance/credit-cards/how-to-report-rent-payments-to-credit-bureaus/.
5: Credit Access and Inclusion Act of 2021, S. 2417, 117th Congress (2021), https://www.congress.gov/bill/117th-congress/senate-bill/2417/text?r=63&s=1.
6: Michael Turner and Patrick Walker, “Potential Impacts of Credit Reporting Public Housing Rental Payment Data,” U.S. Department of Housing and Urban Development – Office of Policy Development and Research (October 2019), https://www.huduser.gov/portal/sites/default/files/pdf/Potential-Impacts-of-Credit-Reporting.pdf.
7: “Alternative Data Such as Rent Payment Reporting Bridges the Gap for Unscorable Consumers and Increases Financial Inclusion Opportunities,” TransUnion LLC (July 15, 2021), https://newsroom.transunion.com/alternative-data-such-as-rent-payment-reporting-bridges-the-gap-for-unscorable-consumers-and-increases-financial-inclusion-opportunities/.
8: 12 C.F.R. Appendix E to Part 1022 (2012).
9: Fair Credit Reporting Act, 15 U.S.C. § 1681, § 1681s–2 (1970).
10: Ibid.
11: “Enforcement actions,” Consumer Financial Protection Bureau (accessed February 1, 2022), https://www.consumerfinance.gov/enforcement/actions/?title=data&from_date=&to_date= (search “data” in the “Search by keyword(s)” dialogue box under the heading “Filter enforcement actions”).
12: Coronavirus Aid, Relief, and Economic Security Act (CARES Act), Public Law No. 116-136 (2020).
13: CDIA Publications (accessed February 1, 2022), https://www.cdiaonline.org/publications/.
14: “Report on the Economic Well-Being of U.S. Households in 2019, Featuring Supplemental Data from April 2020,” at 4, Board of Governors of the Federal Reserve System (May 2020), https://www.federalreserve.gov/publications/files/2019-report-economic-well-being-us-households-202005.pdf.
15: Ibid.
16: Michael Batty, Ella Deeken, and Alice Henriques Volz, “Wealth Inequality and COVID-19: Evidence from the Distributional Financial Accounts,” Board of Governors of the Federal Reserve System (August 30, 2021), https://www.federalreserve.gov/econres/notes/feds-notes/wealth-inequality-and-covid-19-evidence-from-the-distributional-financial-accounts-20210830.htm.
17: The Heroes Act, H.R. 6800, 116th Congress (2020), https://www.congress.gov/bill/116th-congress/house-bill/6800/text.
18: Michael A. Turner, Ph.D., Patrick Walker, M.A., and Kazumi Moore, “Addition is Better than Subtraction: The Risks from Data Suppression and Benefits of Adding More Positive Data in Credit Reporting,” PERC (June 2020), https://www.perc.net/wp-content/uploads/2020/06/credit-data-suppression-deletion-addition.pdf.
19: Ibid.
20: Ibid.
© Copyright 2022. The views expressed herein are those of the author(s) and not necessarily the views of FTI Consulting, Inc., its management, its subsidiaries, its affiliates, or its other professionals.
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June 14, 2022
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