Scratching Medical Debt from Credit Reports: The Cons

Earlier this month the Medical Debt Responsibility Act of 2011 was introduced by U. S. Representative Heath Shuler. In summary, the bill would require credit reporting agencies (Equifax, Experian, TransUnion, etc.) to remove paid or settled medical collection items up to $2,500 per collection from credit reports.

Unpaid medical expenses may take the form of a medical collection item when the unpaid medical bill is turned over to a collection agency and may be reported to the credit reporting agencies. The collection item can remain on the credit report for up to seven years and can negatively impact a consumer’s credit score. The exact impact on the credit score will vary depending on the medical collection information reported as well as on the overall composition of the consumer’s overall credit profile.

Do I support this proposed action?

While I can appreciate the difficult decisions some consumers have to make regarding paying for healthcare-related expenses, I do not think it in the best interest of all US consumers and of the credit granting industry in general to subjectively modify credit data and credit scores through policy decisions.

The decision to block or remove any data item from a credit report should be considered carefully and should include a thorough analysis on how that data element is predictive of future risk. The industry research I have seen consistently shows that consumers who have a medical collection on their credit report pose a greater risk of not paying as agreed in the future compared to consumers with no collections on their credit report. That is why the presence of medical collection items on credit reports are often considered to be “high risk” by lenders and within credit scoring systems.

If this information is suppressed, these borrowers may appear less risky than they really are and, as a result, may take on additional credit they can’t safely handle and thus prolong the cycle of missing payments and increasing their cost of credit. This can also result in an increase in the cost of credit for all consumers as lenders will inevitably spread the cost of these losses via higher interest rates and fees for all new borrowers.

If the medical collection information is inaccurately reported, then the consumer should have every right to dispute that data and the parties (consumer, credit bureau, collection agency, medical service provider) should engage in the established dispute resolution process to correct any reporting error. If that process is not working, then the focus should be on addressing how it can be improved rather than enacting a decision to remove the data element from credit reports.

Lastly, the industry has already proactively addressed this issue to some degree. Both the FICO score and VantageScores incorporate logic where small dollar “nuisance” collection items are either not considered in the score calculation or factor into the score is a less severe way, and thus have less negative effect on the score.

In my opinion, this is the type of question or issue that the newly formed Consumer Finance Protection Bureau (CFPB) should research so that any go forward decisions can be made based on empirical findings in addition to public policy drivers.

[Resource: Get your free Credit Report Card]

Image: rosmary, via Flickr