Are you applying for a loan? You'd better know your FICO 8!
Question: What happens when you add soaring foreclosures--288,345 homes seized by banks in 2010 Q3, up 22% from a year earlier, according to RealtyTrac--to an unprecedented number of homeowners just walking away ("Strategic Defaulting")?
Answer: Both Fair Isaac (the FICO people) and VantageScore Solutions--the two major producers of credit scores--have begun changing how they evaluate consumers' risks of default. New scoring systems (the FICO 8 and VantageScore 2.0) are expected to be rolled out nationwide to lenders shortly to handle the vast credit-disruptions caused by the housing bust, the recession, high unemployment and behavioral changes by consumers. These revisions focus on the subtle warning signs of credit stress that might have been missed earlier--and penalizes or rewards consumers with higher or lower risk scores than they would have received before.
Consumer creditworthiness has deteriorated in the United States since 2006--especially among the "super-prime" borrowers. These strategic defaulters ("walk-aways") have been an unexpected and shocking development to the credit industry. For example, many homeowners are defying long-standing industry assumptions by going delinquent on their first mortgage payments while continuing to pay their credit-card balances and second mortgages on time.
In response to this abnormality, Joanne Gaskin, director of mortgage-scoring solutions for Fair Isaac, says that the new FICO 8 Mortgage Score is likely to be anywhere from 15 to 25 percent more accurate in detecting signs of future default compared with the standard FICO model when used by a lender to rate the risk of new applicants or existing mortgage customers.
Experts in the credit industry say the new scoring efforts by Fair Isaac and VantageScore should prove to be a net positive for housing and the mortgage industries if they can do what they claim: spot subtle risk patterns and nascent hints of improvement.
But buyer beware: these new changes could affect you personally the next time you apply for a loan because as a mortgage applicant you need to know that your next score might not look anything like the score you thought you had--it could be better or it could be worse.