Wednesday, August 25, 2010

Collection Accounts and Your FICO Score

If you didn't already know, the only credit score that matters is the one you get from Fair Isaac – your FICO score. This is the score lenders use when determining whether you qualify for that new car loan, mortgage, platinum credit card, etc. Having a collection account on your credit card can damage your FICO score and lower your creditworthiness. What's more, that collection account can languish on your credit report for seven years.

But how much, exactly, does a report from a collection agency cost you in credit points? That depends on who you are and how much you owe.

I know you're not in kindergarten, but its much easier for me to explain this through examples than through standing up here on my soapbox preaching. So take a look at how collection accounts impact these individuals:

Example 1:

Mary has a mortgage, a vehicle loan, a student loan and two credit cards. She carries low balances on her credit cards and always pays her bills on time. Her credit score is a hefty 780. Unfortunately, Mary's employer doesn't offer health insurance. Mary has a heart attack. After surgery and a lengthy hospital stay, she can finally come home – to over $100,000 in medical debt. 

A total of $17,000 is the bill for her hospital stay alone. She can't pay it and the debt gets sent to a collection agency which reports the debt to the credit bureaus. Because Mary's credit score is so high, the collection account costs her dearly. Her once lofty 780 credit score is now a mere 640. 

Before long, the surgeon who performed Mary's surgery turns her $83,000 surgery bill over to a collection agency as well. This bill is larger, but Mary's credit is lower. Once the collection account hits her report her credit score drops to a 580. The first collection account cost Mary 140 credit points while the second, though larger, cost her only 60. 

The lower your credit score is, the less collection accounts affect you.

Lets take a look at another example of what happens when the collection account is particularly chintzy.

Example 2:

Jake's credit isn't perfect. He made a few late payments in the past and has a tendency to charge up his credit cards from time to time. As a rule, his credit hovers somewhere around 700. 

Jake loans his little sister his library card so that she can do some research for a school project (believe it or not, some teachers still refuse to allow students to use online sources). Jake's sister borrows a book, but neglects to ever return it. Jake forgets all about the whole thing. He ends up with a $65 library fine for late fees and the cost of the book itself. The library turns the fee over to a collection agency which subsequently inserts the debt on Jake's credit report.

Jake isn't pleased with the black mark on his credit history, but his credit score remains the same. 

A-ha! And now we've stumbled on something the debt collector will never tell you. Collection accounts for debts of less than $100 don't impact your credit score!

Fair Isaac releases a new credit scoring model periodically. The point, of course, is to improve the formula as much as possible and make it as accurate as possible. People with small collection debts are statistically less likely to default on major financial obligations, like a mortgage payment, than those with larger collection debts. Thus, FICO, in its infinite wisdom, eliminated those pesky little beasts from its scoring system.

Now even the tree-huggers can give corporate America a little bit of lovin'  :)


  1. This is highly misleading. The accurate information is that most lenders, other than mortgage companies use the old FICO score. The new score is called FICO 8. I had a collection for $97 and it dropped my score from 700ish to 637.

  2. The new FICO is actually FICO '08, not FICO 8. It was developed in 2008 and not released until 2009. I have no idea which lender you applied with, but I can assure you that just because your lender chose to pull an older version of FICO that does not mean that *most* lenders do. Your lender did, and that sucks. My recommendation to you is simply to find a different lender. Best of luck to you.

    1. No, anon is right. Most lenders use outdated versions of FICO, depending on the branch/office you visit.