Banks Face Costs from Credit Report Reform — They Might Be Worth It

The good news for banks about this week's agreement to require sweeping changes to correct errors in credit reports is that credit bureaus are responsible for their implementation.

The bad news for banks is they can expect the three major bureaus — Equifax, Experian and TransUnion — to pass along their implementation costs in the form of higher prices to purchase credit reports. Banks can also expect to incur costs to make changes to their own systems to handle the new protocols.

Still, the agreement could benefit banks in the long run, if default rates improve and the costs associated with bad-debt collections fall, according to several industry analysts and consultants.

"Any improvement in the accuracy of data is an improvement for banks," said Mercedes Tunstall, an attorney at Pillsbury Winthrop Shaw Pittman who advises banks on compliance with consumer laws.

In the meantime banks, which are both customers of the credit bureaus and suppliers of data to them, can expect to see elevated expenses in several areas.

The bureaus reached the agreement with New York Attorney General Eric Schneiderman and agreed to apply the pact nationally. Schneiderman pointed out as an area of concern the bureaus' automated process for dispute resolution with consumers. The agreement requires credit bureau employees to personally inspect those disputes. It is likely that credit bureaus will contractually require banks to bear some of that responsibility, too, Tunstall said.

"My expectation is that the credit bureaus will pass some of that along to banks," she said.

Additionally, credit bureaus will likely charge higher rates for banks to purchase credit reports, said John Ulzheimer, a former Equifax employee who is now a consultant to the consumer credit industry.

"There will be considerable cost for the bureaus to comply with these new provisions," he said.

The largest banks that purchase huge volumes of credit reports will likely be able to negotiate bulk discounts, Ulzheimer said. Regional and community banks may not be so lucky, however.

Ulzheimer also expects banks that are large credit-card issuers to be hit harder. That is because credit card lenders require significantly more credit reports than, say, auto lenders or mortgage lenders, because they use credit reports in prospecting for new customers and for account management.

"You can assume you will need to buy one credit report per auto loan, and three credit reports per mortgage loan," he said. "For credit-card loans, you have to buy multiple credit reports per year for every active customer. There are some issuers that are buying over a billion credit reports per year."

Banks can also expect that they'll need to make significant adjustments to software to handle the changes, said Christine Pratt, a senior analyst at Aite Group. One such change would be the removal of many medical debts from banks' scoring models, since credit bureaus are being required to implement a 180-day waiting period before including medical debts on a consumer's credit report.

"Tweaking your software is one thing, but pulling out an entire attribute like medical-debt information, that could be much more costly," she said.

However, like other analysts, Pratt thinks the changes will be good for both consumers and lenders.

"Medical debt information really is not a true data point," she said. "You could argue that taking out medical debt will make credit scores more dependable. People are getting hit when they never really had that as debt, because the insurance company was really slow in paying those bills."

The entire system of how banks and credit bureaus electronically communicate with each other could be in store for widespread changes, Tunstall said. The final decision will be determined by the mandated working groups of credit bureaus and data furnishers.

"Any changes to the standardized way that banks use their systems to talk to credit bureaus, that could be very expensive for either banks or the credit bureaus to take into account," Tunstall said.

Tunstall declined to provide a cost estimate for banks, noting disparities in size among banks and differences in contract requirements between banks and credit bureaus.

"The credit report system in America suffers from inaccuracy and often outright injustice," Schneiderman said during a Monday press conference. "The need for reform was overwhelmingly clear. This is going to cost [credit bureaus] a lot of money."

"We welcome the proactive steps credit bureaus are taking to enhance the usefulness, predictability and reliability of credit reports," Nessa Feddis, deputy chief counsel for consumer protection and payments at the American Bankers Association, said in an email to American Banker.

Overall, the attorney general's settlement certainly sounds like a good idea for the industry, but it's going to be some time before new-and-improved credit reports are available, Ulzheimer said. The deadline for completion of the third phase of implementation is not until 2018, he said.

"It's a long circle to get to the end of it," Ulzheimer said. "But if, at the end of the day, all these changes result in more-accurate credit scores, that could mean better pricing for banks and fewer losses for banks."

"The consumer will win almost immediately, but the banks' win won't happen for a much longer period of time," he said.