According to Thursday's Minneapolis Star Tribune, people with poor credit histories can now go online and repair their credit by "renting" a credit card account. The end result for the borrower/consumer is a raised credit score that allows them to increase their own credit limits, obtain a car loan, or even obtain approval for a mortgage. But the result for lenders could be disaster.
It is not unusual for a parent to add a child to their credit card account to help the child build a credit history. The child can access the credit line but the account holder, in this case the parent, ultimately bears responsibility for the charges. It's not that simple in this small but growing industry of Internet-based credit repair.
According to the Star Tribune, on-line companies promise to help people with poor credit or low credit scores by adding their names to credit card accounts that have clean records – accounts that have little or no balance and absolutely no late payment history. The consumer cannot use the credit card, but just having their name added to the credit card account will boost their credit score.
It will cost the borrower anywhere from several hundred to thousands of dollars but, according to the Star Tribune, these companies assure borrowers that their credit scores can be quickly raised by as much as 200 points.
According to the Star Tribune, one California company charges $200 to $2,500 for their service. A customer becomes an authorized user on a card for just 120 days. The amount the company charges is based on the age of the credit card account and how high the credit limit is on the card. The older the account and the higher the credit limit, the more it will cost the customer. The original account holder who allows someone to be added to their account also benefits, according to the Star Tribune, by receiving a 25 percent commission.
Although this may be technically legal, it is also dishonest and a practice that is concerning lenders, not to mention defrauding some of them.
Executives at Fair Isaac Corp., the Minneapolis-based company that invented the FICO score, told Star Tribune reporter Thomas Lee that lenders first alerted the company to the practice last fall.
According to the Star Tribune, Bremer Mortgage president Jim Miley said: "We have become so dependent on FICO scoring that we rely on it almost to the point that FICO is the decisionmaking process. To now find out there are companies circumventing FICO is really very troubling. If we can't get assurances that FICO scores are accurate, then we will definitely go back to manual underwriting" of loans.
According to the Star Tribune, Bob Peifer, the executive VP and director of underwriting for U.S. Bank Home Mortgage believes this scam "is undermining confidence in FICO. I view it as an attack on the FICO scoring model. We probably don't know how big the problem is." There is also great concern that Fannie Mae and Freddie Mac, the government-backed entities that purchase mortgages from lenders, might lose confidence in the loans if they decide they can't trust the credit scores, Peifer said.
There is some evidence that inflated credit scores are at least partially to blame for the rash of bad loans in the housing market. About 9 percent of fraud cases in sub-prime mortgages in 2006 involved credit reports, compared with 4 percent in 2005, according to a study by the Mortgage Bankers Association and referred to in the Star Tribune.
Since then, Fair Isaac has been working with regulators, lenders and the three major credit bureaus to determine the extent of the problem. Tom Quinn, vice president of scoring for Fair Isaac, told Star Tribune reporter Thomas Lee that he believes the practice is definitely fraudulent, but they're not sure how widespread the practice is. Once Fair Isaac collects enough data, the company will decide whether to block such practices from affecting FICO scoring, Quinn said.