Top Challenges Consumer Face When Using Alternative Credit Scoring Systems

Top Challenges Consumer Face When Using Alternative Credit Scoring Systems

Key Takeaways

  • Your credit score doesn’t measure your financial worth, or necessarily your level of financial responsibility. Your credit score only measures your ability to manage debt.
  • Credit bureaus measure variables related to your debt like the total amount of your debt, if you make your debt payments on time, how long you have been paying on debt obligations and how much debt you are servicing relative to how much potential debt has been extended to you.
  • How can qualify to take to take out debt like a personal loan, mortgage, auto loan or credit card, if you don’t have a prior history of managing debt.
  • Some credit bureaus are now incorporating alternative credit data like rent and utilities payments so that consumers with a very limited history of managing debt can qualify to take on more debt.

Credit card companies market credit scores as a badge of honor, giving you the power to negotiate better rates and terms from lenders. It does not measure your worth or even definitively determine your level of responsibility.

There are millions of responsible consumers that pay bills on time without a credit score.

How Credit Scoring Works

Credit reports contain the data used to establish your credit score, but not all companies report account activity to credit reporting agencies (CRAs). Credit bureaus track debt payments rather than bill payments, leaving a gap between customers who pay debts on time and those who pay bills on time.

CRAs fail to capture payments associated with rent, utilities, mobile phones, cable, or satellite services. Even though all these companies review credit to determine deposit requirements, they do not report on-time payments to the credit bureau because it is not considered debt. Reporting occurs only if the account goes into default.

To address these disparities, some lenders now accept credit scores like the FICO XD, which uses alternative data.

What is Alternative Data?

Most consumers build credit with debt. Making monthly payments on debt balances builds a credit profile. Securing a credit card or buying a car with a co-signer establishes a payment history that credit scoring companies use to calculate a credit score.

There are three primary challenges to the current credit system:

  • Lenders do not want to give credit before the consumer has credit.
  • Consumers with previous late payments or account defaults face an uphill battle to re-establish credit, even after the debt is settled or discharged.
  • Current practices hurt debt adverse consumers who might rent an apartment, drive a paid-off car, and exclusively use a debit card or cash for everyday expenses.

These individuals often struggle to maintain a credit score because they do not use traditionally measured accounts even if they reliably pay rent and service accounts. Alternative credit sources give vulnerable consumers a way to establish credit by tracking payment histories on existing accounts.

The Top Challenges Faced When Relying on Alternative Credit

Not All Lenders Use Alternative Credit: Despite recognition by the Equal Credit Opportunity Act (ECOA), and increased access to reliable sources of alternative data, many lenders do not embrace the new trend toward alternative credit. FICO XD remains underutilized, despite its increased availability to lenders for personal and small business borrowing needs.

When Alternative Sources Do Not Self-Report, it Makes it Harder to Build a Credit File: Most alternative credit sources do not voluntarily report the payment history of account holders. Without compulsory reporting requirements, service companies, utilities, and rental agencies have little incentive to report account activity on a regular and consistent basis.

Taking Proactive Steps Can Build Your Credit File: Self-reporting is one way to increase your credit score proactively. Companies like eCredable allow you to self-report payment histories. It is possible to include data from utilities and other service accounts along with a record of assets owned, rental payments, and bank account checking and saving balances.

Final Thoughts

Even though not all service companies report information, and not all lenders accept alternative data, you can take a proactive approach to your credit. Through self-reporting, you can get a record of your service account payments to improve your credit score faster.

FAQ’s

What is the meaning of alternative credit data?

Alternative Credit Data is payment history data related to accounts that are not typically made through the granting of credit.

What are some types of alternative credit data?

Alternative credit data can be any type of regular payment that is made that does not require the granting of a traditional credit line. In general, these types of payment relate to the consumption of services like rent, utilities, cell phone service or regular payment like alimony or child support.

Why should I consider adding alternative data to my credit file?

For consumers who have a limited credit history or for those with no credit history like young adults trying to establish credit, alternative data can show a long-term, consistent payment history that can demonstrate to a potential credit financial responsibility and an ability to effectively manage payment obligations.

What is the downside of using alternative credit data?

Not all lenders use this type of data to make lending decisions, however, the in popularity of this type of data reporting means that more and more lenders are now offering credit based on this type of credit reporting data.

About Titan Consulting Group

Titan Consulting Group helps consumers evaluate various debt relief options and choose the right program that best fits their short-term and long-term financial goals. We work with consumers seeking debt consolidation loans, or who may be considering options like debt negotiation or bankruptcy. Through our network of partners, we can help you find the right solution to reach your goals and get back to living a life free from high interest credit card debt.

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