Would you feel comfortable disclosing your bank account information on a personal loan application? What about your work history? That’s what it could take to borrow money from some loan companies that consider alternative data — which can be anything that isn’t in your credit report — when deciding whether to approve your loan application.
Companies that use the data said it helps them better evaluate applicants by giving them insight beyond a credit report, which usually shows things like your name, address, Social Security number, and current and past credit accounts.
But some consumer advocates said that while certain types of alternative data can be promising for consumers, others have the potential to reinforce existing racial and economic disparities and limit access to money for low- and middle-income people.
With the consumer’s approval, using bank account information such as credits and debits on a loan application can be positive for those historically underserved by the credit system, said Chi Chi Wu, an attorney with the National Consumer Law Center, a consumer advocacy group.
But incorporating educational and occupational data in a loan application “replicates existing inequality and it reinforces it,” she said.
When tested against a model that uses traditional credit and application information, the combination of alternative data and machine learning that Upstart uses to assess borrowers approved applicants with 620 to 660 credit scores — bad to fair scores on the FICO scale — about twice as often, according to a post on the Consumer Financial Protection Bureau’s website summarizing the test.
Lenders and consumer advocates agree the credit scoring system is imperfect. The Federal Trade Commission reported in 2013 that one in five Americans had a mistake in at least one of their three credit reports. You can check for errors on your credit reports for free.
Wu said a credit score can also represent an economic advantage or disadvantage that’s outside of a person’s control.
“In terms of lending without replicating existing disparities, it’s hard because even the credit score itself has racial disparities,” she said.
But many lenders have a minimum credit score requirement for an unsecured loan, because it’s still considered a strong indicator of your financial responsibility.
An increase in the intrusive nature of the data lenders consider in application decisions should be met with more transparency to the consumer about what’s being used, said Brent Adams, at the Chicago-based financial research nonprofit Woodstock Institute.