Few people could have guessed that one-day the little friend counter on your social media profile could play an important role in your finances. However, that is increasingly the case today. An increasing number of firms are turning to alternative data sources to determine an individual’s credit worthiness. This can include, among other things, a person’s social media profiles. As more data is collected on consumers, companies are getting better and better at using it to build complicated models that try to assess the risk of lending to a particular individual.
To say these models look at social media profiles is an oversimplification. These types of scores look at a number of features, including things like utility bill payments. Together, all these factors help companies paint a financial picture of their customers.
Where Alternative Scores Help
There were roughly 26 million people in the United States without a credit score as of 2015. As a result, these individuals cannot get approved for loans, competitive interest rates, or even the increasingly lucrative mile cards. People in this group who want to start a new business, may also have difficulty obtaining small business loans. Both traditional and alternative lenders often base their decision on the owner’s credit score. Alternative scores, however, can provide a solution for these people, who have thus far been labeled as “credit invisible”.
One group particularly affected by traditional scores is millennials. Research by ID Analytics has found that 18 to 34 year olds make up the biggest portion of new credit card applicants. However, they are also denied credit cards at a high rate, in many cases due to a lack of a credit file. What’s more astounding, is the fact that many of these individuals are thought to have solid financials, ones that would allow them to pay back any credit card debt. They find themselves in a classic catch-22. They cannot obtain a credit card because they do not have a credit history. At the same time, they cannot start building a credit history without a credit card. Alternative lending and scoring provides a potential way out of this predicament.
Some Major Problems Still Exist
When lenders begin to use your social media profiles to make lending decisions, a natural question to ask is: should they be? It’s easy to see how traditional credit scores can correlate to an individual’s credit worthiness. If a person has consistently failed to pay back loans in the past, it is not far-fetched to say they may do so again in the future. While there is room to argue the accuracy of that statement, it may be even more difficult to defend the use of things like social network profiles. Lenders may feel as though they developed a novel way to determine a borrower’s credit worthiness, though it may not work quite as well – to the detriment of both camps. Not enough data exists yet to see whether the use of these techniques will leave another group of people at a disadvantage.
Perhaps the biggest problem with alternative credit scores is that they aren’t mainstream. That means they will still not allow consumers to obtain credit from the nation’s largest organizations. This is problematic because large organizations are often the ones capable of delivering users with competitive interest rates and rewards. Alternative lending and scoring opens the door for people to seek out business with less-than-amicable motives.
This story originally appeared on ValuePenguin.