Credit Scores & Medical Collections – Do they matter?

Have you ever been to the doctor or the emergency room and thought your insurance took care of the bill only to find out later through your credit report that it didn’t? In that case, the changes would directly benefit you.

On August 7th , 2014, FICO, the company behind the most commonly used credit scoring system, announced a new generation of its credit scoring formula with some remarkable changes to the way it assesses consumer credit risk. The new scoring system, known as FICO® Score 9, is designed to bypass the presence of paid collections.

Previous FICO score systems significantly lowered a consumer’s credit score if it detected any collection account on the credit report, paid or unpaid. In addition, the new scoring system also treats unpaid medical collections differently. FICO® Score 9 does not penalize a consumer as much for an unpaid medical collection as it normally does for other unpaid non-medical collections.

Since developing the first FICO credit bureau risk score in 1981, FICO has made several revisions to its credit score formulas that bring the system more in line with current trending consumer spending and payment habits. Thirty years ago, consumers didn’t use debit cards, nor was it a common practice to have rent-to-own furniture or access to credit at every single store in the mall. It is easy to see why updating your scoring system is necessary if you are in the credit risk management business.

Not the First Time Medical Collections Have Received Attention

In fact, several pieces of legislation have been introduced over the past three years by legislators in Washington. The Medical Debt Responsibility Act, or MDRA, has been introduced every year for the last three years and failed to make it into law. The intent is quite gallant, as medical collections are often unplanned, unexpected, and extremely expensive. A medical emergency can result in tens of thousands of dollars in debt. In some cases, it merits filing for bankruptcy protection, and in many cases, it results in a significantly damaged credit score when the bills end up at a collection agency. MDRA, if passed, would require that all medical collections be removed from credit reports within 45 days of being paid off. The difference here is that there would be no record of the incident ever occurring, and, therefore, it would not be counted by any of the previous FICO® Score models. FICO® Score 9 does not penalize consumers for any paid collection, and it now differentiates medical collections from non-medical collections, resulting in less of a negative impact on the score.

Real-World Application

In order to understand the unpredictable nature of your credit score, you must understand that not only are there several different generations of the credit score, but with each generation comes several versions designed for specific industries and applications. For example, FICO® Score 9 is not just one new credit score system; it’s a suite of score systems with several versions designed for specific industries. Auto loans, mortgages, and credit cards each have their very own version of FICO® Score 9.

The truth is that the new changes are not likely to help anyone out anytime soon. The last time FICO announced a credit score revision was 2008. It was made commercially available in 2009 and just recently has received widespread adaptation by most of the nation’s top credit issuers. Most lenders still use older versions of FICO score systems. Take, for example, mortgages. Mortgage credit risk decisions are made using FICO 04, a risk model introduced in 2004. Consumers in the market for mortgage finance will not see any changes to their credit score, and it doesn’t look like things will change soon. Fannie Mae and Freddie Mac require that all the mortgage lenders that do business with them use FICO 04 when underwriting mortgage loans, and lenders do not have the choice to use a different score until Fannie and Freddie say it’s okay. Mortgage guidelines change frequently, but the credit score version being used has not changed since 2004. There is quite the commotion being caused by all the announced changes, but in reality, we won’t be seeing them take effect anytime soon.

If you are actively trying to improve your credit score, the new scoring system should not influence your efforts. Focus on always paying your credit bills on time, paying off your credit card debt, and staying out of collections, regardless of the newly announced changes.