Credit reporting agencies provide people with a credit score in order to determine their credit worthiness. For example, if someone wants to borrow money, the bank will check the person’s credit score in order to gain a sense of the likelihood that the person will fulfill his or her side of the loan agreement. The largest credit reporting companies have files on more than 200 million Americans and issue over 3 billion credit scores per year.
Credit is a fundamental part of our country’s economic DNA, and establishing a good credit score is one form of asset building. A good credit score enables an individual to secure a loan for a home, school, or small business, in addition to accessing funds and capital. Yet, problems with inaccurate information in credit reports have been well documented. In fact, one study found that 80% of credit reports contained mistakes of some kind and that 1 in 4 credit reports contained serious errors that could result in the denial of credit, such as false delinquencies or accounts that did not belong to the consumer.
Such inaccuracies in credit reports can have significant financial impacts on households. For instance, 60% of employers report that they conduct credit checks on applicants. Yet, research has shown that there is no connection between poor credit scores and bad behavior on the job. Moreover, the recent recession and the continuing weak economy have created a credit catch-22. Last month, the national unemployment rate was 7.8%. Minorities and low-income workers are experiencing even higher rates of unemployment—while white unemployment is around 7.0%, the African American rate is at 13.4%. The credit scoring developer FICO reported that over 25% of consumers have credit scores under 600, considered a poor score, as opposed to only 15% of the population before the Great Recession. That means that one-quarter of American workers are at risk of losing out on a job—or even being fired—over their credit histories. As unemployment continues and families continue to fall further behind on their bills, more and more Americans, particularly low-income people and minorities, are losing (if they had it in the first place) their economic mobility and stability.
Additionally, approximately 35 to 54 million Americans have either no credit score or a thin-file credit score, meaning that they have fewer than three sources of payment information on their credit history. Without a credit score, consumers are often excluded from the financial mainstream and relegated to finding other ways of accessing credit (such as borrowing from family or friends, or paying usuriously high interest rates to secure loans from unregulated payday lenders). Low-income consumers, in particular, are less likely to have the sources of traditional credit that are reported to credit reporting agencies. This gives them low or no scores. If access to credit is a fundamental way that families move into the financial mainstream, and low-income individuals are less likely to have these sources of credit, then changes to the credit industry are necessary.
On October 22, 2012, the Consumer Financial Protection Bureau (CFPB) began accepting consumer complaints against credit reporting companies. As CFPB Director Richard Cordray stated, one of the main reasons for this initiative is because “credit reporting companies exert great influence over the lives of consumers ... [and consumers] need an avenue of recourse when they feel they have been wronged.” Unfortunately, many consumers with errors in their reports do not dispute the information because of barriers such as lack of time or resources, educational barriers, and not knowing their rights. Even when they do dispute inaccuracies, many consumers are frustrated by the credit reporting bureaus’ failure to conduct proper disputes or investigations. The CFPB’s new complaint process attempts to help consumers who face such problems.
In a press release, the CFPB explained the process of filing a complaint. If consumers feel they have been wronged by a credit reporting company, they must first file a complaint directly with the company. If the issue remains unresolved, consumers can submit complaints to CFPB. Examples of issues that may be brought to CFPB are:
- Incorrect information on a credit report;
- A consumer reporting agency’s investigation;
- The improper use of a credit report;
- Being unable to get a copy of a credit score or file; and
- Problems with credit monitoring or identity protection services.
While not a panacea to either the credit catch-22 or the millions without access to a credit score, hopefully this new action by CFPB will force credit reporting agencies to be more accurate and responsible when providing consumers with credit scores and reports. In the meantime, other reforms to the credit reporting industry are also necessary to ensure that consumers are protected.
First, states must enact legislation prohibiting companies from using credit scores in employment decisions. Currently, only eight states (California, Connecticut, Hawaii, Illinois, Maryland, Oregon, Vermont and Washington) have laws regulating how employers can use credit information in hiring decisions. Although 40 bills in 19 states and the District of Columbia have been introduced or are pending in the 2012 legislative session, clearly more states need to enact such legislation. There's even a federal effort by U.S. Rep. Steve Cohen (D-TN), to amend the Fair Credit Reporting Act, which provides certain consumer rights with respect to credit reporting, to keep businesses from using credit checks to make adverse decisions against current and prospective employees. Such legislation must be enacted.
Similarly, efforts must be made to bring those Americans who are either thin file or no file into the mainstream credit industry. Consumer advocates, credit analysts, and lenders have been exploring different options for calculating creditworthiness, including the reporting of nontraditional or alternative credit data. 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. As we have indicated previously, additional research into what alternate credit reporting and scoring methodologies might be appropriate should be conducted. For example, 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? While the effect of alternative credit reporting is still unknown, one thing is clear: to be financially stable members of the U.S. economy, families must have access to credit. Thus, such reporting is worth investigating.