When Was the Credit Score Invented?

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Credit scores affect many parts our lives: whether we qualify for a loan, what interest rate we pay, even where we can rent or whether we get our dream job. But that three-digit number is a relatively new invention—the credit score was invented in 1989, less than 50 years ago.

Understanding the origins of the credit score can help you better comprehend why lenders use it and how to improve your financial situation. 

When Credit Scores Were Invented

People have borrowed and lent money for centuries. In the early days, storekeepers and lenders only extended credit to people they knew, or they would ask people they respected in town for their views on a person’s credit risk. This informal credit reporting system was highly localized and incredibly subjective. 

But as credit became more critical to daily life and people began to move around more, the need for a more widespread credit reporting method arose.

The 1800s: The Rise of Credit Reporting Agencies

After the Panic of 1837 (partly caused by easy access to credit), Lewis Tappan recognized that businesses might benefit from a better understanding of who to issue credit to. In 1841, he formed Tappan’s Mercantile Agency, the first credit reporting agency in America, to meet this need.

His company hired “correspondents,” reliable men (often attorneys and ministers) who would investigate people’s standing in their communities and report it to the central office. They would then add the information to a central ledger in New York City. Many businesses subscribed to the Mercantile Agency to view these reports before issuing credit. 

Tappan was a strict abolitionist, so he only worked with businesses in free states, so other credit reporting agencies began to spring up to work with businesses in the South. Hundreds of these credit reporting agencies existed all over the country by the end of the Civil War, but the system had a few problems:

1. Each agency had different information based on who they hired as correspondents.
2. Information was highly subjective and included information about a person’s race, gender, and overall moral character, which allowed bias to play a role in lending decisions.
3. Lenders didn’t know how to interpret the information in the credit reports because they were so subjective, and lenders often didn’t know the person applying for credit.

As more people began to access credit to purchase items like cars and homes in the late 1880s and early 1900s, these credit reporting agencies continued to thrive.

1950s and 1960s: Digitizing Credit Reports

This system was still in place in the 1950s when the ability to digitize records meant that some standardization could occur. Larger agencies started buying their smaller counterparts for additional data they could add to their reports, and national credit bureaus began to form. 

In 1956, Bill Fair and Earl Isaac created Fair, Isaac, and Company to make credit reports more actionable for lenders. They used the data in a credit report to perform a statistical analysis that would inform a lender of a person’s credit risk. What resulted was a more analytical approach to interpreting credit reports, but each business or lender had its own algorithm based on the factors they prioritized.

As records continued to be digitized, many people became concerned about the surveillance being done to gather credit information and discriminatory practices in credit reporting. People also realized that credit mistakes would be available forever and could potentially hurt people’s ability to borrow for their entire lifetimes. The Fair Credit Reporting Act of 1970 put several protections into place, including:

• Removing data related to race, sexuality, and disability from credit reports 
• Requiring credit reporting agencies to delete information after seven to 10 years, depending on the type of data

1989: The FICO Credit Score

While more effective for lenders than the previous system, scores varied widely based on a company’s priorities. 

The credit reporting bureaus wanted something more standardized, so they partnered with Fair, Isaac, and Company (now known as FICO®) to create the FICO Score, a national scoring model for everyone. The FICO Score debuted in 1989 and quickly became popular with lenders, who no longer needed to hire companies to create their own algorithms. Consumers, who could now know their credit score before applying for a loan, also appreciated the FICO Score.

In the 1990s, the FICO Score cemented itself as part of the lending landscape when Fannie Mae and Freddie Mac began requiring the score as part of mortgage applications. 

VantageScore and Other Credit Scores

In 2006, the three major credit reporting bureaus—Equifax®, Experian®, and TransUnion®—launched the VantageScore®, an alternative to the FICO score. There have been four iterations of the VantageScore since 2006, and the latest version incorporates trended credit data, which includes monthly data points over 24 months. It also utilizes machine learning and does not factor medical debt into its algorithms.

Each major credit reporting bureau also has its own proprietary scoring models that lenders may also consider:

• Equifax Credit Score
• TransUnion CreditVision New Account score

Despite these options, most top lenders use the FICO Score.

Why Credit Scores Were Invented

Before the credit score, lenders determined a person’s credit risk based on credit reports, which include:

• Personal information
• Account information
• Hard inquiries into your credit
• Public financial records such as liens or bankruptcies

Often, lenders weren’t sure how to interpret your credit report, which led to bias in lending decisions and general confusion for consumers regarding whether they would be approved for a loan when they applied.

The credit score was invented to standardize the lending process to make it faster and more equitable. It prevented lenders from using racial, gender, and class bias when determining someone’s credit risk. 

Problems With Modern Credit Scoring

While credit scores eliminated the problems of previous credit reporting systems, they aren’t perfect. Here are a few issues with modern credit scoring:

• Inappropriate use of credit scores. When the credit score was originally invented, its sole purpose was to determine credit risk for loans. Now, lenders, landlords, and employers often use it to determine a person’s level of responsibility, which can influence car insurance rates and hiring decisions.
• Upholding social hierarchies: People with low credit scores, or the roughly 10% of Americans with no credit history, are often denied access to loans or credit cards. When they receive a loan, they often have to make a larger down payment and pay more in interest.
• Racial disparities: While the Fair Credit Reporting Act of 1970 removed the use of race as an explicit factor in one’s credit, institutional racism may still impact the remaining factors. For example, redlining continues to prohibit many Black Americans from purchasing a home, preventing them from building wealth through homeownership. As a result, their credit length and payment history, two factors that impact your credit score, may be shorter. This may explain why multiple studies have shown that racial minorities have lower credit scores than white people. 
• Inaccurate information: A recent study found that 34% of people have at least one error on their credit report. These errors can lower your credit score, resulting in you paying more in interest. While you can dispute errors on your credit report, it may take time to see an increase in your credit score.

These problems could result in you paying more in interest for a loan or being denied the loan altogether. 

The Future of Credit Scores

Credit scores have changed since they were invented and will continue to do so as consumer spending and technology change. Here are a few trends that may impact how credit bureaus determine your credit score in the near future:

• Buy Now, Pay Later (BNPL): Also called point-of-sale (POS) installment loans, BNPL plans allow you to divide purchases into lower monthly payments, often without interest. Currently, these short-term loans aren’t reported to a credit bureau unless you don’t make your payments, but that may change as technology advances to allow real-time data and these become more popular with consumers.
• AI and Machine Learning: Experts are currently debating the use of AI and machine learning to automate and improve credit scoring. Some parties claim it will result in more accurate credit risk assessments and allow credit reporting to occur in real time, making it more accurate. Others are concerned about the potential invasion of privacy and the ethical use of data since AI is only as good as the data it is fed.

• Inclusion of alternative data: Nearly 37 million Americans are credit underserved, meaning they have little to no credit history. As a result, they are unable to get access to credit. To help the credit invisible gain credit, credit reporting companies have begun considering alternative data, called consumer-permissioned data, including bank account information and monthly payments like rent, utilities, and streaming subscriptions. Currently, consumers can choose to share this information with lenders and then retract access once they’ve built credit, but this information could begin factoring into everyone’s credit score since AI can make this data easier to use.

Track Your Credit Score With Credit.com

Your credit score is one of the most important numbers in your life. Understanding the history of the credit score and its challenges can help you in your journey to improve your credit. As technology continues to advance, stay informed on the latest updates to credit scoring and take proactive steps to manage your credit with Credit.com.

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