May 16, 2008 at 6:59 AM ET
A mistake last week by student loan firm Sallie Mae temporarily wrecked the credit scores of a million loan holders, with some victims saying their scores had sunk 100 points or more. While the scores have since been fixed, the Sallie Mae mishap provides a startling look at the impact of credit scores, how fragile the credit-scoring business is and how severe the punishment can be for one credit-related error: a potential cost of hundreds of thousands of dollars to individual consumers.
Earlier this week, Sallie Mae said it had changed the way it sends monthly payment information to the credit bureaus, and that change inadvertently caused about one million loan holders to end up with a serious blemish on the credit reports. The college lending giants offers borrowers graduated payment plans that allow former students to pay a little less in the initial years after they leave school, and a little more later. Sallie Mae's change caused the bureaus to view those on graduated payments as “arrangements made with credit grantor to make partial payments." That sounded to the credit bureaus as if the borrowers had signed up for a reduced payment plan after being delinquent, which carries with it a serious credit score stigma.
As to whose fault the errors ultimately were, take your pick: Sallie Mae, for changing the payment information provided to the bureaus; the bureaus for reporting the errors; or Fair Issac, the company that invented the formula used to calculate the scores?
Sallie Mae spokeswoman Martha Holler said the glitch affected “roughly 10 percent of our 10 million customers.”
The impact was severe and immediate. Borrowers who discuss their credit scores on a message board created by credit score inventor Fair Isaac left panicky notes for each other all week, some claiming their scores dropped by close to 150 points after the glitch.
One victim who spotted the problem late last week said his credit report was pockmarked by errors.
"So I just ordered my new Score Watch report and under "Understanding your FICO Score" it says: 1 serious delinquency 60 days past due; Balances past due $3,013; Recently missed a payment 2 months ago. None of it is true."
Said another: "I was notified of a 140 pt drop in my credit score. Sickening indeed."
Holler said that the erroneous change only impacted Equifax credit reports and scores based on those reports. The error was fixed before Experian and Trans Union updated their files. And she said all the scores were fixed by Tuesday evening.
"Customers' credit scores were corrected (Tuesday) to what they ... should have been absent our error," she said. "We fully understand the importance of one's credit rating and that is why we worked with great urgency to fully resolve the situation. We sincerely apologize for this error."
Consumers worried about the Sallie Mae incident can examine their credit reports for free at AnnualCreditReport.com, if they haven't done so in the past year. But the only way to really make sure things are back to normal is to examine your credit score, which must be purchased at AnnualCreditReport.com or at various other outlets online.
The Sallie Mae mistake raises disturbing questions about credit scores. The most obvious is this: Why can one company, making one error, have such a devastating impact on consumers? A 100-point drop in a credit score can turn a prime mortgage borrower into a sub-prime borrower. Last month, I explained that a 100-point difference can nearly double the interest rate a mortgage borrower must pay, costing a consumer an astounding $750,000 extra in interest during the life of a $500,000 loan. Even a 50-point drop can cost a consumer about $150,000 more.
Can one blemish -- real or accidental -- cause that much of a penalty? Yes indeed, says John Ulzheimer, who helped design the credit score formula at Fair Issac and now runs consumer advice site Credit.com. He is also author of the book, “You’re Nothing But A Number.”
"One black mark can damage your score that significantly. In fact, we've seen many scenarios where scores have dropped more than 200 points because of something derogatory hitting the credit files," he said. Making matters worse, a single black mark will have a deeper effect on those with perfect credit that those with already damaged reports. "Higher scores will be damaged more by new derogatory information," he said.
Liz Pulliam Weston, MSN columnist and author of “Your Credit Score,” says she has seen simulations showing that one late payment can knock 100 points off of a credit score in the 800s. Still, she says, it usually takes a series of events "to really trash a score." While the scroing system works well in general, accidents clearly happen.
"The scores are pretty robust on a macro level, but may not be on an individual level...Overall, the scores seem to do what they're supposed to do, but that doesn't mean individuals don't get unfairly punished for bad data," she said. "Bottom line, lenders don't care about individuals--they want to make a profit, and if they wind up excluding a few good risks because of bad credit info, oh, well."
While the Sallie Mae mistake was corrected quickly, the sheer volume of consumers it affected suggests at least some were directly harmed by the incident because they applied for credit last week while the lower score was in force.
"Who knows how many people were declined credit or approved at disadvantaged rates and have no idea why?" Ulzheimer said.
But the incident raises another issue that Ulzheimer frequently complains about. Credit reports are notoriously riddled with errors -- mistakes most people discover only when they are in the middle of a major purchase. At that point, it's often too late to get the scores fixed in time for a mortgage to close or a car to be purchased. Generally there's a 30- to 45-day lag time when fixing credit report errors, Ulzheimer said, because lenders send data to the credit bureaus in large batches, only once a month.
Bureaus could move more quickly
The Sallie Mae incident reveals that credit bureaus can update their files more frequently, and they should be willing to do that for any consumer who has a mistake in their file.
"Credit bureaus can update information in 24 hours when they're motivated to do so," he said. Right now, however, a consumer's only option to quickly fix a credit report error is to hire a third party "rapid rescoring" company. "You could spend $1,000 or more just to update your own credit reports," Ulzhwiemer says. "That's a joke." And consumers have little legal recourse against the furnishers of bad credit information or the credit bureaus that store it.
For Sallie Mae borrowers, there's nothing funny about last week's incident. Many reacted to the change by immediately changing their repayment plans to surrender the graduated payment advantage, thinking that would fix their score. Now, they must undo those changes. And of course, they live with the knowledge that their credit scores, and their financial lives, are indeed one corporation's mistake away from serious complications.