Who would’ve thought that a number, with three digits, could be so important? In this case, those three special digits represent credit scores.
Credit scores are considered a building block of the consumer economy. Some even go as far as claiming credit scores to be the most critical financial metric in our lives. They have the power to influence many things including access to mainstream loans, loan terms and interest rates, and insurance premiums.
So, what IS the history of credit scores? How did a small (in quantity of digits) number come to have such a big impact on a variety of decisions in your life? Read on to find out.
The Origin of Credit Scores
Credit scores originated from lenders questioning if they could rely on the borrower to repay the loan. Prior to the advent of credit scoring as we know it today, lenders simply evaluated prospective borrowers based on factors such as home visits, word-of-mouth statements and payment history. The reality was individuals with a good credit history could simply walk into a financial lender’s office and get denied access to a loan simply because the lender didn’t like the person. (Thankfully that is far from the case today!)
Historically, credit reporting provided a way of maintaining social hierarchies. Over time, the process has become essential in providing opportunities to a broader audience. While credit assessments based on individual reputation are long gone, calculated assessments based on data analysis have become what we know today, credit scores.
History of Credit Scores
While credit reporting was developed more than 100 years ago when small retailers traded financial information more often based on personal relationships, the credit score, as we know it today, was born only three decades ago.
- 1800s: New bankruptcy laws made loans riskier. Credit reporting started to transform as the increase in business transactions made the old system (based on qualitative assumptions) too cumbersome.
- 1956: Fair, Isaac and Company (FICO) was founded. The company, who had been selling credit-scoring algorithms for decades, began moving toward a standardized credit score. After countless refinements, the automated scoring system eventually became what is now known as the FICO score.
- 1970: Congress passed the Fair Credit Reporting Act, which encouraged the privacy and accuracy in credit reporting by creating a regulated system with standardizing data.
- 1989: First general FICO score debuts, using a similar algorithm that is still in play today. The FICO credit score provided a standardized process for all individuals to have a systemized financial identity.
- 2003: Congress enacts the Fair and Accurate Credit Transactions Act which provides individuals the right to one free credit report per every year from each of the nationwide credit reporting agencies.
No longer solely available to commercial borrowers, financial identity has become a fact of life for all consumers. But it wasn’t that long ago that the credit score as we know it today, the FICO score, didn’t exist.
Understanding the history of credit reporting and credit scores shows us why it’s important to pay attention to the institution as a whole, not just individual scores, as they impact a variety of decisions in life.
Check out our recent blog post to learn more about all things credit score, including defining FICO Score, ways to improve your credit score, and more.
Have less than ideal credit and need help getting your finances in order? Credit scores are just ONE piece of our loan approval process. Learn more about reducing debt and building credit.