September 25, 2022
How US money lenders, employers and others use them





Credit scores boil down a borrower’s history of loan repayment and other factors into a three-digit number. Financial institutions use these scores to inform lending decisions for home mortgages, auto loans, personal loans and more.

Lenders typically see a low score as an indication that a prospective borrower carries a high risk of default — of not being able make payments on the loan. Lenders interpret a higher score as an indication they will recoup their loan, plus profit from interest paid.

When a consumer goes to an auto dealer or a mortgage lender seeking money, the lender will pull a credit report from one or all of the major credit reporting bureaus: Equifax, TransUnion and Experian. Innovis, the fourth largest bureau in the U.S., is used less. They are for-profit enterprises not affiliated with the U.S. government. Credit reports from the major reporting companies include a detailed history of debt payment and other information, such as tax liens and bankruptcy filings.

Credit reports typically do not include credit scores. But credit scores are based on those reports, and lenders often review both. The major credit reporting bureaus produce their own credit scores, but most lenders rely on a type of credit score known as a FICO score. FICO scores are created by the publicly traded company formerly known as the Fair Isaac Corporation, which was founded in the 1950s to build a market among lenders for consumer credit information.

Credit scores range from 300 to 850, with an average FICO score of 714. Anything less than 669 is considered a “fair” or “poor” credit score, according to FICO. Credit scores in the 670 to 739 range are “good” with scores above 740 being “very good” or “exceptional.” There is no standard credit score that consumers start out with, but young people building credit for the first time usually start with a score of around 645, according to July 2021 research from the Federal Reserve.

There was $4.4 trillion in outstanding debt held by individuals in the U.S. in 2021 — not including home equity lines of credit — up 16% since 2017, according to the latest Federal Reserve data. All the major credit bureaus operate internationally, though the U.S. system of credit scoring is most similar to what financial institutions in Canada use.

Businesses sometimes use credit reports to inform hiring decisions. Eleven states plus Guam and Puerto Rico limit the use of credit information in employment decisions, according to a recent analysis the National Conference of State Legislatures shared with The Journalist’s Resource. The states are California, Colorado, Connecticut, Delaware, Hawaii, Illinois, Maryland, Nevada, Oregon, Vermont and Washington.

Each bureau may report a slightly different credit history on a particular consumer. Consumers can dispute information in their credit reports using this guide from the federal Consumer Finance Protection Bureau. People are entitled by federal law to a free copy of their credit reports once yearly.

Credit reporting in the U.S. dates back prior to the last century, note the authors of a recent study in The Journal of Extreme Anthropology. The credit system has “a long history, starting with commercial credit reporting firms, whose evaluation practices from the nineteenth century have become defining of contemporary consumer credit reporting,” the authors write. Creditworthiness in the U.S. has historically not just been evaluated in terms of loan payment history, but has also taken “moral character” into account, they note.

FICO contends that its scores remove bias from lending, as scores are based on financial history, not an individual’s demographic characteristics. For years the news media has reported a more nuanced conclusion. For example, in July, the American Public Media radio show “Marketplace” explained how algorithms that aggregate data on demographic groups allow bias to seep into credit scoring systems.

Marketplace correspondent Kimberly Adams notes in that broadcast that payday lenders cluster in predominantly Black and Latino neighborhoods — a relevant point since those lenders tend to charge high interest rates, increasing the odds an individual will default and ultimately damage their credit score.

In short, while a borrower’s FICO score itself is not based on race or ethnicity, systemic racism plays into the economic data that inform credit scores.

Academic research can help reporters understand issues related to credit scores, including those related to systemic racism. Here, we provide an overview of recent peer-reviewed research, plus two studies from the Federal Reserve’s FEDS Notes research article series, which are not peer-reviewed.

These studies explore why people who get help from their parents building credit early in life have more access to loans later in life; how mortgage credit score minimums that cropped up after the Great Recession affected financing for home buyers; and how government restrictions on the use of credit information in employment decisions affect hiring practices. 

Young Borrowers’ Usage of Cosigned Credit Cards and Long Run Outcomes
Hannah Case. FEDS Notes, July 2022.

The study: Cosigned credit cards require someone with good credit, often a parent, to agree to pay any unpaid balances. Both the cosigner and the card holder can have their credit scores dinged if payments are missed. (Another route for a young person to build credit is for a parent or guardian to add them as an authorized user on a credit card.)

Federal legislation passed in 2009 “significantly restricted access to credit cards for borrowers under 21 if they did not have a cosigner,” Case writes. Past research, she notes, has found that the earlier a consumer starts building credit, the better their credit score usually is by age 30. Case advances this past work by exploring how access to cosigned credit cards affects borrowers’ future credit health.

The findings: Using data from the Consumer Credit Panel, a nationally representative sample of Americans’ debt produced by the New York Federal Reserve and based on credit reports from Equifax, the author analyzes data for first-time borrowers, ages 18 to 20, who opened a credit card cosigned by at least one parent from 2009 to 2014. Young borrowers with cosigned credit cards generally have parents with higher credit scores and come from Census tracts with higher median incomes than those who get their first credit card on their own.

Case finds borrowers who started off with a cosigned credit card have a credit score 29 points higher, on average, by age 30 than those who opened their first credit cards by themselves — and 55 points higher than those who first built credit another way. Cosigned young borrowers are also much more likely to have a mortgage, “suggesting that borrowers who enter the credit universe with a cosigned credit card are more likely to be homeowners by the time they are 30.”

The author writes: “Access to a cosigned credit card depends, in part, on having a parent or other borrower with a good credit history, and so this suggests that parents with high credit scores and access to credit may be able to help their children build and establish credit. At the same time, a parent’s ability to cosign a card is likely correlated with other aspects of a borrower’s financial life such as financial literacy, income, and other assets.”

The Effects of Mortgage Credit Availability: Evidence from Minimum Credit Score Lending Rules
Steven Laufer and Andrew Paciorek. American Economic Journal: Economic Policy, February 2022.

The study: In January 2010, in the wake of the Great Recession, the Federal Housing Administration began requiring a minimum credit score of 500 for home loans it was willing to back. Congress founded the administration in 1934 to provide federal insurance for mortgages, with the goal of offering low- to moderate-income households the chance to own homes without huge down payments.

After the Great Recession, the Federal Housing Administration also began dropping lenders carrying portfolios with high default rates. In response to those and other changes from the federal housing regulator, many large mortgage lenders established their own minimum credit scores — some as high as 660. The authors explore how credit score minimum thresholds affected Americans’ access to home loans.

The findings: From 2010 to 2012, the credit score threshold for most mortgage lenders shifted toward buyers with better credit scores. In 2010, the authors show, there were few loans made to applicants with credit scores below 620. By 2012, the minimum credit score that lenders would be likely to accept rose to 640. The authors use mortgage data from 2008 to 2011 from the Consumer Credit Panel.

Prospective borrowers with credit scores under 640 were 0.5 percentage points less likely to obtain a mortgage following the industrywide credit tightening during and after the Great Recession. Over the long term, “we find that the difficulty in obtaining credit lasts for roughly two years, and we find no evidence that borrowers are able to reverse these effects and ‘catch up’ in the two years afterward,” the authors write. They also find “no evidence that providing mortgage credit to marginal borrowers would have resulted in additional mortgage delinquency.”

The authors write: “While it is generally difficult to simultaneously weigh the costs and benefits of tighter credit, this set of results seems to indicate that in the years following the financial crisis, lenders’ unwillingness to make mortgage loans to borrowers with low credit scores created an environment in which credit was too tight.”

Does the Age at Which a Consumer Gets Their First Credit Matter? Credit Bureau Entry Age and First Credit Type Effects on Credit Score
Lucas Nathe. FEDS Notes, July 2021.

The study: Building credit early in life is not enough on its own to gain access to credit later in life, Nathe writes. Other factors include the type of credit and how consistently a young borrower repays their debt. Using data from the Consumer Credit Panel, Nathe explores the relationship between when someone begins building credit and the type of credit they start out with.

The findings: People ages 18 to 30 in the sample start with a credit score of about 645, on average. The average credit score rises to nearly 670 by age 30 for those who started building credit at age 18 — higher than the average of 646 by age 30 across the entire sample. Nathe finds that, “young borrowers often experience credit score decreases in the first few years of their credit history followed by subsequent increases. Further, initial credit card and student loan borrowers exhibit a much steeper growth in credit score than other types of borrowers.” Notably, nearly one-third of people in the data sample did not start building credit until after turning 30, with “suggestive evidence that they may have entered the data as a result of immigration to the United States.”

The authors write: “I find that more than 70 percent of individuals enter [the credit market] by the time they are 30, with 18- and 19-year-olds representing the largest share of any age. It also appears that there may be a benefit to one’s credit score specifically associated with entering the [credit market] at 18 years of age.”

Assessing Creditworthiness in the Age of Big Data
Pernille Hohnen, Michael Ulfstjerne and Mathias Sosnowski Krabbe. Journal of Extreme Anthropology, June 2021. 

The study: The authors explore how financial systems in two economically advanced nations, the U.S. and Denmark, have used computer algorithms as an increasingly important tool in credit scoring. The authors write that they “focus on credit scoring in the U.S. and Denmark because they reveal different trajectories and configurations of credit scoring.” The authors base their analysis on a variety of informational materials, including academic research, advertising from credit score companies, bank privacy policies, documents from a 2019 U.S. congressional hearing, and interviews with 21 consumers in the U.S. and one employee at a major Danish bank.

The findings: The U.S. credit scoring industry is complex, from established firms to start-ups to data brokers that gather and sell personal information. The data used to create credit scores is deregulated, creating “a situation where automated credit scores diffuse to ever more domains of everyday life, affecting people’s access to education, housing and employment,” the authors write. While credit scores are still based on actual past financial activity — such as making or missing regular loan payments — they are also increasingly informed by algorithms that make assumptions about an individual based on the demographic groups to which they belong. “An individual’s ‘creditworthiness’ is furthermore no longer just a matter of whether they should be granted a loan,” the authors write. “Credit evaluation becomes a calculation of possible profit generation rather than an estimation of a probability of default.”

Denmark, by contrast, has a limited history with credit scoring and must abide by the European Union’s data protection law, the General Data Protection Regulation. Based on that law and other Danish regulations, “banks cannot sell or share information about customers with other financial institutions,” and they may not even know about other loans a potential borrower holds. The credit scoring system there has focused primarily on negative financial information, functioning as a “‘blacklist’ of delinquent borrowers,” the authors write. Experian, which registers Danish loan defaulters for up to five years, is the major firm that banks and other lenders use to consider whether to issue debt. In light of government regulations, “Danish banks have developed a pervasive system of automated scoring of their customers,” that include data on “geographical movements, behavior and personal preferences.” Customers do not have access to this information or their credit score, according to the authors.

The authors write: “In both cases, the personal credit score is not only less personal than what is suggested, but it also creates a new notion of what is meant by ‘past’ financial behavior. This automated ‘past’ becomes a representation of individual morality and reliability, forming an entirely new basis for calculating the individual’s future financial conduct.”

Who Benefits from Bans on Employers’ Credit Checks?
Leora Friedberg, Richard Hynes and Nathaniel Pattison. The Journal of Law & Economics, November 2021.

The study: There are 11 states, plus Guam and Puerto Rico, that limit employers from using credit information in employment decisions. In Connecticut, for example, an employer cannot force a job applicant to submit to a credit report “as a condition of employment,” with exceptions, including if the employer is a financial institution. The authors compare the timing of when the 11 state laws were enacted, from July 2007 through October 2013, with data on more than 42,000 households from the U.S. Census Bureau’s Survey of Income and Program Participation covering May 2008 to December 2013.

The survey asks a variety of questions, including about household economic health, which the authors use to determine whether the state bans helped households experiencing financial distress — defined as a household at any time being unable to pay for “essential expenses” over the past year. Among all survey participants, 18% reported financial distress; 27% of unemployed survey participants reported the same.

The findings: Financially distressed people found a job at a 28% higher clip after credit score restrictions were enacted, compared with states that did not have restrictions, and got a job nearly two months earlier while taking home additional wages of $3,700, on average, over those weeks. The authors mention critics have raised concerns that such restrictions reduce employer information about job applicants and lead to worse matches — employers end up with employees who don’t fit their needs. That wasn’t the case in this study, with new hires staying at their jobs longer, on average, in states with bans than without.

Crucially, the authors find restrictions did not prevent people who were not financially distressed from finding a job. They note their study took place during a period with high unemployment, the Great Recession, and that “costs and benefits may vary with labor market conditions or in the longer run.” The survey did not recruit a diverse enough pool of participants in order for the authors to draw conclusions by race or ethnicity.

The authors write: “This result for credit check bans differs from the effects of ban-the-box policies, which prohibit employers from asking about criminal history on an initial application but result in no increase in employment for job seekers with a criminal history. A key difference between these policies is that credit check bans prevent an employer from ever accessing credit reports, while ban-the-box policies only prevent employers from asking about criminal histories on the initial application.”

“No More Credit Score”: Employer Credit Check Bans and Signal Substitution
Joshua Ballance, Robert Clifford and Daniel Shoag. Labour Economics, April 2020.

The study: Similar to the November 2021 paper in the Journal of Law & Economics, the authors explore employment outcomes in states that restrict employers’ use of credit information in hiring decisions. They use credit check data by state from Equifax for the month of November for each year from 2009 to 2014, the period when most state laws were enacted, along with consumer credit data from the Federal Reserve Bank of New York and Census Bureau data on employment.

Though credit reports that employers pull usually do not include credit scores, the authors use average credit scores as a proxy for more detailed information included in a report. Their rationale is that if the average credit score of people living within a particular Census tract is below 620, a credit report on one of those people at random is likely to show a worse financial history than a random report pulled from someone living in a tract with a higher average credit score.

The findings: There are, logically, fewer credit checks in states that ban them, along with more hiring in neighborhoods with low average credit scores — below 620. “The shifts occur in mid-to-high-wage jobs, with the largest effect on public sector employment,” the authors write. But the authors also associate bans with lower employment rates for workers under age 22 and for Black workers, “groups commonly thought to benefit from such legislation.”

Job postings in areas with low average credit scores began to require college degrees and more work experience after a state level ban was enacted. In other words, employers appeared to substitute credit score data with other criteria in order to make hiring decisions — which, the authors suggest, could result in worse employment outcomes for Black and younger workers.

The authors write: “We compared labor market outcomes for [Black workers] in states with and without bans, relative to prior trends and conditional on individual controls. We find that the introduction of a ban is associated with a 1 percentage point increase in the likelihood of being unemployed for prime-age [Black workers] compared with the contemporaneous change for whites. Thus, it appears that the prohibition of credit screening and the increased emphasis on other signals may actually, relatively, harm minority applicants.”

Further reading

Credit Scoring Alternatives for Those without Credit, a January 2022 blog post from the U.S. Government Accountability office.

Examining the Use of Alternative Data in Underwriting and Credit Scoring to Expand Access to Credit, a July 2019 hearing held by the U.S. House Committee on Financial Services.

Who’s Keeping Score? Holding Credit Bureaus Accountable and Repairing a Broken System, a February 2019 hearing held by Financial Services Committee.

Creditworthy: A History of Consumer Surveillance and Financial Identity in America, a July 2017 book by University of New Hampshire associate professor of communication Josh Lauer.

Credit Reports and Credit Scores, a fact sheet from the Federal Reserve.

Credit Bureaus: The Record Keepers, an explainer from the Federal Reserve Bank of St. Louis.



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