Credit has taken on an increasingly important role in our economy. Accumulating assets is necessary for low-income families to move out of asset poverty and become financially secure. But without a credit history, it is difficult if not impossible to qualify for a mortgage, obtain a credit card, buy a car, or finance a small business. Yet, estimates indicate that 32 million consumers have credit files that are too thin to score, and 22 million have no files at all, meaning that the big three U.S. credit bureaus (TransUnion, Experian and Equifax) do not have enough information about these individuals' finances to assign them a credit score, whether good or bad. Many of the “un” or “under” scored are minorities, young adults, and women.
For these reasons, consumer advocates, credit analysts, and lenders have been exploring different options for calculating credit-worthiness. The reporting of nontraditional or alternative credit data has frequently been suggested as one of these options. Since traditional data, such as credit cards, mortgages, and student loans, are not typically available for lower income families, the use of nontraditional data, such as utility bills, mobile phone bills, and rental payments, is viewed as a means of incorporating these individuals into the credit reporting industry. In particular, in the past few years there has been an aggressive effort to promote monthly reporting of all customer utility payments, including late payments.
Currently, the vast majority of electric and natural gas utility companies only report to those three credit reporting agencies when a seriously delinquent account has been referred to a collection agency or written off as uncollectible. Supporters contend that full utility credit reporting will assist thin file or no-file consumers to build credit histories and gain access to credit.
Yet, the National Consumer Law Center (NCLC) recently released a policy brief, Full Utility Credit Reporting: Risks to Low-Income Consumers, examining the effects of full utility reporting on low-income consumers. According to the report, a 2008 national study of utility arrearages found that over 22% of electric utility and almost 20% of gas utility accounts were overdue at year’s end in 2007. Yet, only 1.3% of electric utility and 4.3% of gas utility accounts were written off as uncollectible during the entirety of 2007. As a result, under full utility credit reporting, many low-income customers would receive negative credit reporting marks. Since a single, 30-day late payment damages a credit score by as much as 60 to 110 points, NCLC claims that full utility credit reporting of such accounts would actually result in millions of new negative reports in instances where late utility payments currently go unreported.
A low credit score can often be worse than no credit score. Credit scores and reports are not solely used for lending decisions. Many employers use credit reports in hiring and other employment decisions. Although research has shown that credit histories do not predict job performance or turnover, more employers are using credit scores in the hiring process to screen applicants—60 percent of employers recently surveyed by the Society for Human Resources Management said they run credit checks on at least some job applicants, compared with 42 percent in a somewhat similar survey in 2006. This ignores the obvious Catch-22 situation—job applicants are behind on their bills because they don't have a job, but they can't get a job because they're behind on their bills. Similarly, over the last decade, a growing number of insurers have reported using credit insurance scores to determine rates, including over 92 percent of auto insurers. As a result, those with poor credit could be charged with insurance rates from 40 percent to several hundred percent more in premiums. Full utility credit reporting could, therefore, result in consumers being denied employment or forced to pay higher insurance rates.
NCLC also notes that low-income consumers could suffer disproportionately from full utility reporting. First, states across the country have adopted consumer protections intended to shield vulnerable populations from loss of electric and natural gas utility service during high cost months and times of illness or financial hardship. These consumers may sometimes defer full payment of utility bills, knowing that they are protected from shutoff. Enacting full utility credit reporting would undermine these health and safety protections. Second, because the cost of utilities depends so much on the weather, consumers generally have little control over these costs, as compared to other debts that appear on credit reports. The costs also vary by region of the country. A particularly harsh winter or summer could create significant financial strain for low-income consumers, and full utility credit reporting would exacerbate that harm. There is also wide variability between states in credit and collection rules, energy prices, and the availability of energy assistance programs. Low-income consumers living in states with unfavorable rules and inadequate low-income bill payment assistance and energy efficiency programming would be unfairly penalized, as full utility credit reporting will not reflect these disparities.
As the Shriver Center has previously noted, there is much debate as to whether the inclusion of nontraditional credit data will be helpful or harmful to low-income and credit-thin families. Some argue that such reporting will catapult previously excluded families into the mainstream lending market, allowing them to access the credit needed to build assets. Others, including NCLC, argue that alternative reporting could prove to be harmful and could be used to further marginalize low-income families. The Shriver Center addressed these issues in-depth in the Clearinghouse Review article, Alternative Credit Data: To Report or Not to Report, That is the Question, and facilitated a discussion of industry experts in a webinar, Credit Scoring and the Un-Scored: Alternative Credit Data.
The Shriver Center believes that a closer look at the credit reporting system itself seems appropriate before incorporating any form of alternative reporting data. Since the current credit system’s lack of transparency and inaccuracy already discriminates against low-income families, perhaps the first step should be for advocates to work on making the credit bureaus accountable and transparent, before adding more information into a seemingly vacuous and obscure system. Moreover, not all alternate credit reporting and scoring methodologies are created equal. What types of data predict creditworthiness and should therefore be reported? Should it be limited to utility payments or should it also include things such as rent, telecom, child care, medical, and other payments not currently or routinely examined by the large credit reporting agencies? As part of incorporating such alternative data, should the reporting process be adjusted to provide an opt-in for those who want it, rather than automatic reporting for all? Or should extra weight be given to payments, such as child support, thereby making credit scoring not only a predictor of creditworthiness, but also a basis for social policy?
To be financially stable members of the U.S. economy, families must have access to credit. Until these questions regarding alternative data reporting are answered, it remains unclear whether or not such reporting is the appropriate way to ensure low-income and asset-poor families’ successful entry into the mainstream credit industry.