Comments on: FICO Algorithm says “Don’t Consolidate!”

By: Christine

Christine — Fri, 29 Jun 2007 19:46:56 +0000

Ardell – Sorry I did not get here sooner – I have been crazy busy in the office and out. I love your spin on it.
Here is one thing that I did not touch on either was the CELL PHONES. Cell phone bills and past dues come up on credit scores all the time. I am not sure how much they affect, but I know ALOT of people who want to cancel a service with one provider to go with another and they don’t pay the “early cancellation fee” and the next thing you know there are past dues popping up on the credit score. I am curious to know HOW badly that affects a score.

By: Rhonda Porter

Rhonda Porter — Fri, 29 Jun 2007 00:06:00 +0000

Credit scoring is a pretty screwy system. If a borrower has excellent credit and is offered a super low rate credit card and they transfer all their balances to it…they’re penalized if the balance is over 30% AND again if the it’s for the new credit card. (new debt dings you). AND AGAIN…if they closed their old accounts (credit scoring prefers established accounts).

By: Todd Carpenter

Todd Carpenter — Thu, 28 Jun 2007 22:46:22 +0000

If the borrower pursues a path of better fiscal health, they’d likely be better of any way. With a 640 FICO, if you can put down 20%, and have 30% debt ratio, your going to get a heck of a lot better deal on a mortgage than the 680 guy putting 10% down.

Also the 640 – 680 hit you mention could be as little as .125 points, or $500 on a $400,000 loan. Running all that higher interest credit card debt over the years could mean a whole lot more than that. On top of that, FICO hits are usually more common, and costlier on elevated risk loans. ARM’s Stated Income… If the borrower is a good saver and has a stable income, they are less likely to need these programs in the first place.

By: ARDELL

ARDELL — Thu, 28 Jun 2007 22:33:42 +0000

Todd,

Makes sense from an algorithm’s standpoint

On some “breakpoints” where rate is affected, like 640 vs. 680, these little hairs of difference can affect a borrowers interest rate, correct?

So even if the “story” reveals $200,000 in savings, the borrower could still end up with a higher rate for a score of 640 vs. 680. Is that right?

By: Todd Carpenter

Todd Carpenter — Thu, 28 Jun 2007 22:27:02 +0000

Ardell, the reason they want to see the debt spread out is because it show they can handle writing three checks a month instead of one. That’s simplified, but basically true. It’s their ability to manage three lines of active credit that they are getting bonus point for.

By: Todd Carpenter

Todd Carpenter — Thu, 28 Jun 2007 22:22:51 +0000

Exactly, using credit cards to get by is not good fiscal advice! That is why I caution people when they ask how to raise their credit score.

Credit companies have no way of knowing how much money you have saved. They can only go on your credit history to make a decision. That’s why credit scores are only part of the equation on bigger loans like residential mortgages.

By: ARDELL

ARDELL — Thu, 28 Jun 2007 22:17:22 +0000

Seattllite,

But isn’t it still better to consolidate debt, keep your required payments low by having one instead of three to pay, and have one card with a really good interest rate than three cards? I’m not getting that part. Why should FICO penalize someone for not spreading out their debt to different cards?

By: ARDELL

ARDELL — Thu, 28 Jun 2007 22:14:03 +0000

hmmm, interesting answer Todd. I like that there appears to be a reason for wanting people to have three cards with lots of available credit.

BUT what if someone has $100,000 in the bank and one really good low rate credit card that is at 80% of limit? Using credit to get by if you lose your job is not as good as having savings for that, seems to me.

By: Todd Carpenter

Todd Carpenter — Thu, 28 Jun 2007 21:57:46 +0000

Having multiple lines of available credit means that a borrower can better handle being unemployed for a short period of time, paying for a blown engine in their car, or robbing Peter to pay Paul in making their credit credit card and mortgage payments on time.

Credit companies don’t care if using that credit will diminish the borrowers overall fiscal health, just that it means they will still be able to pay on time. They also know that the borrower earned those limits by being a good customer in the past.

Example: If all else was equal, a borrower with $500 in debt on a credit card with $750 limit would have a lower credit core than a borrower with $5000 in credit card debt on $10,000 in open lines of credit. Borrower #1 could be an excellent saver, who pays cash for everything, and has a nice fat 401K. It doesn’t matter, because he hasn’t proven he can pay his bills on time. Borrow B could be buying his groceries on his card, living paycheck to paycheck. All the credit company cares about is that he’s proven in the past that he can handle a large amount of debt.

By: seattlite

seattlite — Thu, 28 Jun 2007 21:54:07 +0000

I believe what Todd is saying is that there can be a difference between being in a good place financially and having a high FICO score.

If you make $30,000 per year and have three credit cards with $4,000 balances and $15,000 credit limits each that have all been open for a long time with the minimums paid on time each month, plus a car loan at $500/mo for 6 years you are consistently making payments on, you will likely well have a high FICO score. Your FICO score meaures your ability to pay your debts, and you are doing so well.

However, your fiscal health is quite poor. You owe $12,000 + the car loan on a $30,000 income. Your debts are a staggering amount compared to your income and, unless the credit card debt was incurred buying appreciating assets, are fully related to things that depreciate. You may have a high FICO score, but I wouldn’t want to lend you money – you really need to better learn to live within your means and spend less.