Traditional credit data is the bedrock of most lenders’ underwriting process. This data encompasses the information found within Experian, Equifax, and TransUnion credit reports. While undeniably valuable, traditional credit data allows a lot of creditworthy consumers to fall through the cracks.
As of 2024, an estimated 50 million Americans are “credit invisible.” Many of these consumers are young individuals, recent immigrants, or people who have avoided using traditional credit so far. Despite their limited credit histories, these consumers may manage their finances responsibly and make excellent mortgage candidates.
Due to this data gap, 31% of lenders no longer believe that traditional credit reports complete pictures of applicants’ finances on their own. Forty-three percent of lenders have added alternative credit data to their underwriting models, and 90% believe doing so is an effective way to obtain more creditworthy borrowers.
So, what is alternative credit data? And how are lenders leveraging it in 2024? We explore the answers to these questions below.
Table of Contents
What is Alternative Credit Data?
Alternative credit data is information that gives lenders insight into people’s creditworthiness that isn’t included in their traditional credit reports. For reference, traditional credit data includes consumers’:
- Length of credit history
- Loan history
- Credit card limits
- Debt repayments
- Remaining credit balances
- Credit account statuses
- Credit inquiries
- Public records, such as judgments and bankruptcies
This information can provide a reliable assessment of a borrower’s ability to repay their debts on time – as long as they have an adequate credit file. People with thin credit files are a different story. Their traditional credit data may be too limited to accurately illustrate their creditworthiness. That’s where alternative credit data can bridge the gap.
Alternative credit data includes the following types of information:
- Rental payment history, which can be verified and provided by property managers, rent collection companies, and other third-party companies
- Alternative lending service data about payday loans, Buy Now Pay Later (BNPL) financing, point-of-sale financing, rent-to-own agreements, single-payment loans, auto-title loans, small-dollar installment loans, and similar products.
- Financial account data, including average bank account balances, transaction histories, bounced check and overdraft information, and investment portfolios.
- Recurring payment data, including payments for utilities, cell phone service, internet service, insurance, and streaming services.
- Full-file public records, including professional licenses, property deeds, and address histories.
This information can provide lenders with a more holistic view of an applicant’s financial situation. Better yet, it can give applicants with limited credit histories a chance to show lenders why they’re worth approving.
What Are The Advantages of Using Alternative Credit Data?
Here are six benefits of employing alternative credit data in your underwriting process:
#1 Alternative Credit Data Can Help Lenders Approve More Applicants
Lenders have to strike a careful balance between acquiring more customers and ensuring they meet their strict credit criteria. Applicants with thin credit files are often rejected due to their perceived risk. However, these risk assessments aren’t always accurate.
For example, an applicant may have a long history of making their rent and utility payments on time, along with a healthy average bank account balance. Based on this information, lenders can safely assume that this applicant is willing and able to repay their mortgage payments, even if they don’t have ample experience using credit.
As you can see, alternative data gives lenders a way to identify more worthwhile applicants, expanding their business prospects while maintaining stringent underwriting standards
#2 Alternative Credit Data Can Bolster Lenders’ Risk Management
When it comes to underwriting, the more data, the better. Thus, alternative credit data can provide a more detailed view of applicants’ risk than traditional credit reports alone. While this data can benefit some applicants, it can also shed light on others’ problematic financial behavior.
For example, consider an applicant who has a high credit score and a low credit utilization ratio. This person could be utilizing an alarming amount of payday loans on the side. Or they may frequently fall behind on their utility and telecom payments, suggesting they’re in financial trouble.
Alternative credit data can uncover these financial red flags among applicants who otherwise appear low-risk. Thus, it can support lenders’ ability to make better underwriting decisions. Thanks to this benefit, 62% of financial institutions have already started using alternative credit data to enhance their risk profiling.
#3 Alternative Credit Data Can Help Lenders Detect Mortgage Fraud
Since traditional credit files only contain a small sliver of data, they often allow suspicious activity to go under the radar. For example, an applicant may have shady sources of income or unusual spending patterns. Alternative credit data can shed light on these issues, preventing lenders from approving applicants who may be pursuing fraudulent schemes.
#4 Alternative Credit Data Can Help Lenders Tap Into Underserved Markets
These days, many lenders are struggling to attract a sufficient volume of new business, motivating them to explore new markets. According to surveyed lenders, the customer segments with the greatest perceived growth opportunity in 2024 are as follows:
- 73% – Young applicants (aged 18 to 25)
- 41% – People who have recently immigrated to the United States
- 39% – Thin-credit-file consumers
These markets just happen to mirror the exact demographics of borrowers who stand to benefit the most from alternative credit data. Thus, it’s no surprise that 90% of surveyed lenders believe that alternative credit data can help them tap into these key markets.
Learn More: Helping First-Time & NextGen Homebuyers Compete & Thrive in Today’s Market
#5 Alternative Credit Data Can Strengthen Lenders’ Inclusivity and Borrowers’ Loyalty
For many decades, lenders have overlooked applicants with thin credit histories. These applicants are disproportionately made up of people of color and immigrants. Thus, it’s no surprise that these groups have lower rates of homeownership and less generational wealth than their thick-credit-file counterparts.
With the help of alternative credit data, lenders can enact more inclusive lending practices and help close historic homeownership gaps. In that process, they earn borrowers’ loyalty along the way.
Learn More: How Mortgage Lenders Can Close The Gap for Underserved Markets
#6 Alternative Credit Data Can Help Lenders Personalize Product Offers
Along with helping lenders build bigger customer bases, alternative credit data can help them enhance their borrower retention. That’s because lenders can analyze this data to tailor their loan offers to meet borrowers’ unique needs.
For example, maybe a lender discovers that some of their borrowers recently took out costly payday loans to finance big expenses. These borrowers may be ideal candidates for lower-rate home equity loans or home equity lines of credit (HELOC).
Alternative credit data can also help lenders set more nuanced loan terms. For instance, they can give applicants with positive alternative credit data lower interest rates and more favorable loan terms than those without it.
How Can Lenders Access Alternative Credit Data?
Since alternative credit data can bring so many benefits to your mortgage lending business, you may be wondering how to access it. Here are three ways to do just that:
#1 Purchase It From a Third-Party Data Aggregator
Many companies, from FICO to Experian, have started aggregating alternative data in recent years. These companies do so by incentivizing consumers to share access to their data. As time goes on, lenders can anticipate an increasing influx of third-party data aggregators.
#2 Obtain It Directly With Consumer Permission
The next way lenders can obtain alternative credit data is by inviting applicants to share it with them directly. Fortunately, many consumers are more than happy to give their consent. Just take a look at these statistics:
- 70% of consumers are willing to share more of their financial details if it increases their chances of qualifying for a loan.
- 48% of consumers would prefer that their utility bills be included in their credit histories.
- Around 40% of consumers would like to add their savings account transactions and mobile phone bills to their credit history.
Learn More: 6 Benefits of Integrating Consumer Permission VOE into Your Cascade VOE Flow
#3 Leverage The Latest Mortgage Credit Scoring Models
According to the Federal Housing Finance Agency (FHFA), FICO 10T and VantageScore 4.0 will soon replace Classic FICO as the required credit scoring models for conventional loans. Both of these models factor in various forms of alternative credit data, including payment histories for rent, utilities, and telecom services.
These new credit scoring models won’t be required for conforming loans until the fourth quarter of 2025. However, lenders can leverage them sooner if they want to take advantage of their built-in alternative data offerings.
Learn More: New Changes Coming to Credit Scoring Models & Credit Reporting
Is Alternative Credit Data FCRA-Compliant?
While alternative credit data can provide a wealth of valuable insights, it must be Fair Credit Reporting Act (FCRA)-compliant to be used in lending decisions. This means that it must be:
- Obtained with consumer consent
- Verified for accuracy
- Disputable and correctable
Lenders must also ensure their alternative credit data adheres to the Equal Credit Opportunity Act (ECOA), which “prohibits discrimination on the basis of race, color, religion, national origin, sex, marital status, age, or because a person receives public assistance.”
Additionally, some states have specific laws and regulations that may apply to alternative credit data, such as California’s Consumer Privacy Act (CCPA). This act outlines rules about how consumers’ personal data can be collected and used.
Best Practices For Using Alternative Credit Data
In addition to ensuring that your alternative credit data satisfies all relevant regulations, you should also follow these three best practices:
- Prioritize transparency – While many consumers are willing to share their data, they want transparency about how it’s being stored and used.
- Protect borrowers’ data privacy – Next, it’s important to have strong data security practices in place to safeguard your applicants’ alternative credit data from prying eyes.
- Pursue workflow efficiency – Whether you rely on data aggregators or consumer permission data, look for technology providers who integrate alternative credit data seamlessly into your existing underwriting systems.
What Are the Current Barriers to Alternative Credit Data Adoption?
While alternative credit data offers many advantages, 82% of surveyed lenders were at least somewhat reluctant to include it in their underwriting process. Credit unions were the most hesitant.
Lenders’ top concerns about alternative credit data are as follows:
- 44% – Risk of increased regulatory compliance risk
- 43% – Reliability and stability of the data
- 30% – Cost of purchasing the data
- 26% – Technical requirements for integrating the data
- 21% – Current stage of adoption within the industry
- 21% – Challenges with funding loans approved using the data
- 19% – Potential impact disparities on applicants
The good news? 71% of these lenders believe that third-party vendor collaborations can help them overcome these hesitations and embrace alternative credit data in the near future.
Consumer Financial Protection Bureau (CFPB)’s Proposed Rule
In 2023, the CFPB proposed a new rule within Section 1033 of the Dodd-Frank Act in an attempt to hasten the transition to open banking. This proposed rule would empower consumers to access fintech services, no matter where they bank. It would also require financial companies to inform consumers about the information they collect, how it will be used, and how they can disconnect their data from their products and services.
By promoting greater clarity and standardization throughout the industry, 75% of surveyed lenders believe this rule would remove friction for consumers who want to provide them with access to their alternative credit data.
The Future of Alternative Credit Data in Mortgage Lending
As you can see, alternative credit data is quickly transforming the modern lending landscape. Since it’s still in its early stages, it has yet to reach its full potential. However, lenders can expect to see more regulations and technological innovation that facilitate its widespread adoption.
If you want to stay competitive, leveraging alternative credit data is a worthwhile undertaking. This data can help you make better lending decisions, find hidden gems within credit-thin segments, and offer historically underserved borrowers a more inclusive financing experience.
Modernize Your Mortgage Lending Business With Certified Credit
Along with embracing alternative credit data, you can upgrade your lending business by partnering with Certified Credit. As a leading mortgage solutions provider, we offer:
- Customizable credit reports
- Credit score improvement tools
- Automated workflow optimization solutions
- Fraud and risk mitigation
- Flood zone determinations
- Property and valuation support
- Underwriting compliance
- Settlement services
Our suite of solutions can modernize your mortgage lending business and accelerate your adoption of alternative credit data. Learn how by scheduling a credit consultation with our team today.
