Should Credit Decisions Include Non-Credit Payment Transactions?


23 October,2015

One of the biggest bones of contention in recent years has been the way credit scores are figured. A number of factors go into your credit score, most of them based on the way you handle your debt. However, as your credit history becomes increasingly important for financial transactions that don’t include borrowing, some people think that maybe it’s time for this measure of financial responsibility and ability to pay attention to some of the non-credit situations we are involved in every day.

Financial Responsibility Isn’t Just About Borrowing

The easiest way to build a good credit score is to borrow using credit cards and pay your bills on time. You can maintain a good score by participating in other credit transactions, and by making sure that you don’t miss your non-credit payments since those items can reflect negatively on your report if you are late.

However, many financial services providers use your credit report to make decisions about you, even if you aren’t borrowing money from them. You aren’t borrowing money when you get insurance, but in some states insurers are allowed to use your credit information when setting your premiums. I just moved to a new town and the following people wanted a look at my credit history — even though I wasn’t getting a loan from any of them:

  • My new landlord
  • City utility provider
  • Cell phone service provider
  • Internet service provider

Even though I’m not applying for credit, all of these companies wanted to make sure I was “responsible” with my money. They wanted some assurance that I would pay on time. Because I do have a long credit history (stretching back almost 20 years), and my credit is good, I look financially responsible.

But what about those who don’t have enough credit experience for a thick credit file? In some cases, it might even be a choice. According to a recent Bankrate survey, a number of millennials aren’t interested in using debt as part of their finances. In fact, says Bankrate, 63% of millennials don’t even have credit cards.

For some of these millennials, the traditional credit scoring model doesn’t make sense. These are people who pay their rent on time and make other payments right on schedule. They are trying to build up their savings and maybe even live frugally, thanks to the lessons learned from the Great Recession and the 2008 Financial Crisis. Credit history has become a measure of financial responsibility, but for the rising generation, it doesn’t make a lot of sense.

Many millennials are plenty responsible with their money; they just do it without debt.

Is It Time to Include “Alternative” Information in Standard Credit Models?

Some argue that the “traditional” scoring methods need to evolve to include “alternative” information. If credit information is going to be used to make decisions about non-credit transactions, shouldn’t the reverse be true? There are plenty of situations that allow consumers to show that they are reliable, but that don’t have to include borrowing.

Yes, it’s called a “credit” file and it’s supposed to report your past performance in borrowing situations. However, your credit information is used in a number of situations that have nothing to do with borrowing. In a very real and practical sense, it’s become a measure of overall financial responsibility, moving beyond the realm of credit. With that in mind, many people think that the definitions of what “counts” toward creditworthiness should be expanded.

One of the biggest changes in recent years is that rent payment information can now be reported to some of the credit bureaus and included in your credit history. However, that information might still not make it into your credit score, and you have to convince your landlord to report the information. (Many landlords are happy to report delinquent accounts or turn you over to collections, but it’s something else to get them to report your good behavior.)

Rent is a big sticking point in the fight to include more information in credit assessments because it is usually a bigger commitment than a gym membership. On top of that, many millennials are putting off buying homes. This does a lot in terms of norms. First of all, if you aren’t interested in buying a home, you might wait longer to begin building your credit. And, of course, if you prefer to rent forever (and some of today’s millennials like the idea of making a lifestyle choice that revolves around renting as opposed to buying), you might never need to use the current credit system.

But the bottom line is that rent is usually a commitment equal to a mortgage payment, and many consumers think that it should be viewed accordingly, and considered when making evaluations of someone’s level of financial responsibility. Someone who pays rent on time for years is probably going to be able to handle a car payment — even if s/he hasn’t borrowed up to this point.

FICO has already changed the way it has handled medical debt in the past because this debt isn’t very predictive, due to the special circumstances surrounding it. This means that it’s very likely that FICO could start evaluating ways non-credit payments actually predict the likelihood of responsible financial behavior.

And, in fact, FICO already appears to be experimenting with this idea. Earlier this year, FICO announced that it would start considering utilities and other “alternative” data for some consumers. However, this data would only apply to so-called “thin” files, where the consumers might be unscorable. In these cases, the alternative scoring could provide information about likely behaviors.

The idea of including utilities — as well as rent — in credit scoring has been kicking around for a few years. It’s even been considered by Congress. However, the concerns about expanding the current model have curtailed these efforts, especially since it could prove disastrous for those who struggle to make utility payments and other bill payments.

There are companies like eCredable that offer a way to build your credit file using alternative methods — no borrowing required. However, these credit reporting agencies aren’t universally accepted in the way that the old industry standards are. Additionally, many of these alternative scoring methods, like FICO’s attempt to score the unscorable, are designed to help transition those with thin files into the “regular” credit scoring system.

Efforts to integrate this “alternative” data into more “standard” models have so far failed. However, there are still attempts, and dissatisfaction with the current system continues to grow, especially among the members of the younger generation.

New Ways to Pay and the Sharing Economy Could Make Credit as We Know it Obsolete

The old credit industry might need to move a little faster to catch up. So far, the assumption has been that at some point young people will have to suck it up and get a credit card or a car loan in order to participate in the economy. If they want to be able to get a mortgage, they will need to start by getting other loans first to build credit.

However, technology is changing the way we pay for things and the way we interact with each other. Credit in the old style might not be around for much longer. Ways of transferring money to others through a variety of P2P payment options through smartphones allow consumers to skip credit cards.

Additionally, the rise of the sharing economy and growing trend toward location independence means that some of the staples of our society are changing. Who wants to buy a home when you can be a digital nomad and live and work wherever you want? Do you really need to own a new car when you can work from home, walk to the store and then catch a cheap ride with Lyft or Uber to the airport?

But the biggest change is likely in the mindset of the rising generation. Many millennials are more interested in experiences than things, and they are interested in saving up and paying in full for the next vacation than they are in buying a home with a white picket fence using mortgage debt. These new values and priorities are likely to change the way millennials interact with money — and it also means that many of them don’t care about the current credit scoring models.

So far, the numbers of those opting out of the credit scoring system are relatively small. However, as the way we pay and the way we make choices about money continues to be impacted by technology and changing values, the credit scoring industry might find itself being forced to make changes that cater more to what consumers want.

And that means expanding the definition of what makes someone “responsible” with his or her money.