What's the buzz about FICO 08?

Fair Isaac recently announced plans to change its credit scoring formula. The new model, named FICO 08 is slowly making its way into the credit scoring process.

Why this change to the existing credit model?

Fair Isaac believes that FICO 08 will do a better job at predicting the likelihood of default on a loan and the new scoring system will ultimately help lenders reduce default rates on consumer loans between 5 and 15 percent.

How does this affect me?

FICO 08 will supposedly go easier on consumers who make the occasional slip while coming down harder on those with multiple offenses. For example, it will give a slightly higher score than previously to a borrower who is late on one obligation but current on multiple other accounts. Those with several delinquent accounts could find their credit score has dropped.

Negative effects on the consumer

When it comes to credit scoring, the new FICO 08 is more sensitive than the classic FICO as far as how much of your available credit you're using. If your credit card issuer reduces your credit limit for whatever reason, you could see your scores go down, whether you carry a balance or not.

The new scoring formula responds more negatively if consumers have few open, active accounts. In todays credit crunch more and more credit card issuers are shutting down unused and unprofitable accounts. This increases the chances of a damage to your scores.

Positive effects on consumers

Collections -

In the area of collections, the new formula ignores small collection accounts in which the original debt was less than $100.

Delinquencies -

The FICO 08 model less punishing to consumers that are in arrears in one area, but have a number of other accounts that are in good standing. For instance if you had a repossession or charge-off two years ago, as long as your other active credit accounts are all in good standing. The effect on your score will not be as bad. FICO 08 looks more into a consumers payment pattern.

Authorized users -

The new scoring model eliminates "piggybacking" which has been a way for individuals with bad credit to leverage the payment histories of "stronger" credit card holders by becoming an authorized user on their accounts.

By definition, an authorized user is a person that is permitted by another account holder to use their account. For example, parents may make their children authorized users of their cards in order to help them build credit and many spouses derive all of their credit histories from being authorized users of their husband's or wife's card.