Should models other than FICO be used by the Enterprises to make mortgage purchasing decisions?
Sue Johnson, strategic alliance consultant
In a move that could trigger a final decision this year on the use of alternative credit scoring models by Fannie Mae and Freddie Mac, the Federal Housing Finance Agency (FHFA) requested public input in December on whether models other than FICO should be used by the Enterprises to make mortgage purchasing decisions.
The topic of whether Fannie Mae and Freddie Mac should adopt alternative credit scoring models has been debated for years. Bipartisan bills requiring them to consider models other than FICO have been introduced in both the House and Senate for two consecutive years. In 2017, the Consumer Financial Protection Bureau (CFPB) requested public input on the advisability of using alternative data in credit scoring as part of a broader inquiry into ways to expand access to credit for consumers.
But unless legislation is passed, the decision over the use of alternative credit scoring models lies with the FHFA, which supervises the Enterprises. Here is an overview of the issues at stake and the FHFA’s Request for Input.
Fannie Mae and Freddie Mac now rely on Classic FICO credit scoring models, which consider traditional information such payment history, debt burden, and length of credit history.
Newer models that look at a broader range of data (such as mobile phone, utility and rental payments) are available in the marketplace but are not allowed by the Enterprises. One prominent example of such a competitor is VantageScore, a joint venture of the three major credit bureaus (Equifax, Experian and TransUnion).
Advocates of alternative credit scoring models argue that if sources of alternative data were used, a large number of consumers that are credit-invisible—meaning they have no credit history with a nationwide consumer reporting agency—would get access to mortgage credit or lower borrowing costs. A 2017 CFPB study found that 26 million consumers are credit-invisible and that another 19 million consumers have a credit history that has gone stale or is insufficient to produce a credit score under current models. A 2015 VantageScore study estimated that the use of alternative models could give roughly 72,000 more households access to credit each year, 16 percent of these being Hispanic and African-American households.
Skeptics believe that the issue is not so simple. Some point to the fact that the credit bureau owners of VantageScore control the supply of information now used by FICO and could gain an unfair advantage that could diminish long-term competition, although the credit bureaus could be required to sell their holdings in VantageScore. Some believe that the use of alternative data could be prone to more errors because of weaker standards in its collection, or could create privacy issues if consumers do not know that it is being collected or shared.
The FHFA Request for Input
The FHFA already required the Enterprises to assess the potential impact of allowing the use of alternative credit scoring models such as FICO 9 and VantageScore in its 2015-2017 Scorecards, which outlined conservatorship priorities for the Enterprises. Its 2017 Scorecard concluded that empirical evidence shows only marginal benefits to requiring a different credit score than Classic FICO since their automated underwriting systems incorporate additional information provided by the borrower and third parties during the mortgage application process.
The Request for Input is intended to gather further feedback from all interested parties impacted by a possible change. Specifically, the FHFA is evaluating four credit score model options:
- Option 1: Single Score. The Enterprises would require delivery of a single score, either FICO 9 or VantageScore, if available, on every loan.
- Option 2: Require Both. The Enterprises would require delivery of both scores, FICO 9 and VantageScore, if available, on every loan.
- Option 3: Lender Choice on Which Score to Deliver with Constraints. The Enterprises would allow lenders to deliver loans with either FICO 9 or VantageScore, when available. Lenders would have to choose one score or the other for a defined period of time.
- Option 4: Waterfall. The Enterprises would allow delivery of multiple scores through a waterfall approach that would establish a primary credit score and secondary credit score. Where a borrower did not have a credit score under the primary credit score, a lender would have the option to provide the secondary credit score.
FHFA Director Mel Watts said in a December speech that any credit scoring change would not take effect until 2019, although a decision could be announced in 2018. “The more we looked into this issue, the more complicated it became, and it is turning out to be among the most complicated decisions I have faced during my tenure at FHFA,” he told another audience. Now, it looks like a decision may finally come this year.