THE BLOG
10/13/2014 07:01 pm ET Updated Dec 13, 2014

Riots in the Streets?

Not yet, but maybe there should be. Here's what is going on. Did you know, are you aware that there is in fact a new improved credit score? Yes, that's right, a new kid on the credit scoring block, if you will. Get this: if actually used, this new credit scoring formula could actually end up helping those misrepresented by current credit scoring models.

Huh?

Look, here's the thing you need to know. Right now, as in today, there is a credit scoring formula used by the majority of the lending world. This model is used for everything from qualifying for a mortgage, to getting into an apartment or in some cases even obtaining employment.

Yet, there are, shall we say, issues with the current formula. This formula, which goes by the acronym FICO (from the company that originally came up with the concept, Fair Isaac Company) is actually a fairly complicated algorithm. This fancy, specially engineered set of proprietary formulas is supposed to tell a prospective lender whether or not you will or will not pay off a loan. Think of it as the lender's crystal ball.

The problem with the current crystal ball (FICO) is that it excludes very important segments of our society. Which segments are missing out here? What if you learned that FICO excludes most minorities? And then what if you learned that young people (think young working adults) are also left out? Would you then be expecting to see another Occupy Wall Street movement? Recall that one of the prime motivations for those that participated in the Occupy Wall Street movement was a dissatisfaction about the perception of social and economic inequality as well as the perceived undue influence of large financial service organizations.

Yet, even though there are no protests in the streets, the same thing is happening again in the credit scoring world. You see, due to the way the traditional FICO score is calculated, millions, that's right, millions of African Americans, Latinos and younger working adults don't really have a FICO score at all. This is largely due to these nontraditional consumers have not behaved the way the FICO model assumes everyone behaves.

That means, for example, that a significant portion of the minority population do not use what you could label as the traditional forms of credit. These consumers pay rent instead of a mortgage, they pay the normal electric and cell phone bills. Yet, these payments are not factored into the traditional FICO score. Remember, the FICO score is in large part based on credit utilization. Obviously, if there is zero credit utilization there cannot in fact be a real "score" assigned to that consumer.

There is Another Way
It's called the Vantage Credit Score. First conjured up way back in 2006, the Vantage Score is an attempt to recognize these other payment histories. Actually, the Vantage credit score gives a full 28 percent of it's scoring weight to payment histories. This means that a member of this underrepresented class could have a high Vantage credit score.

Not So Fast
So as promising as the Vantage Credit score could be for minorities and young working adults, there is one big problem. You have undoubtedly heard the names Fannie Mae and Freddie Mac. Basically, what Fannie Mae and Freddie Mac say in the mortgage market is what happens in the mortgage market. To date, neither Fannie nor Freddie have expressed any interest in adopting the use of the Vantage Credit Score.

It's An Outrage
None other than a former Fannie Mae vice president, Mr. James Carr makes the case that the failure of Fannie Mae and Freddie Mac to change their ways is needlessly keeping millions of African Americans, Latinos as well as other minorities out of the housing market. Since virtually all mortgage lenders look to Freddie and Fannie for guidance, no lender is going to dare break from the pack and try a new model. Mr. Carr was quoted as saying the failure of Freddie and Fannie to act is having "...a disparate impact on minority consumers and is discouraging first time home buyers." Ouch! Keep in mind that he is a former Vice President, so he isn't just mouthing off here.

Where Are the Protests?
Most likely, the most affected consumers don't quite know or understand what is going on. That being said, perhaps some forward thinking lenders will take the lead and speak up for a change. After all, homeownership is part of the American culture. What better way to reinvigorate the economy than to get some underrepresented groups into their own homes?