Credit invisibles in the US are finally on their way to financial inclusion. JPMorgan Chase, Wells Fargo, U.S. Bank, and seven other banks are reportedly launching a pilot program where they’ll assess the creditworthiness of individuals based on alternative sources of data. By looking at their banking histories―such as checking and savings account balances, returned checks, and overdraft usage―the 10 banks included in the pilot program will be able to grant credit to those who really need it.

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With the program set on launching later this year, 26 millions Americans who lack a credit record, as well as another 19 million Americans who have no credit score due to their outdated credit record, will have access to more financial products and services. On the other hand, this new credit scoring model will be instrumental to banks and other financial institutions looking to expand or improve their offerings.

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As more and more people seek credit to make necessary large-scale investments, alternative data will play a big role in generating credit scores, as well as in growing the financial technology or fintech sector as a whole.

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What it means to credit invisibles

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Applying for credit has historically been difficult to achieve. Even more so for people who have little to no opportunities to build their credit scores. These people typically consist of young adults who have yet to build their credit history, immigrants who can’t transfer their credit report from their previous home country, and people of color who are disadvantaged by racial inequality from accessing financial services.

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These individuals cannot purchase productive assets such as a car or a house or build their wealth with their own resources. Thus, access to credit plays an important role in strengthening financial power. The downside of the traditional credit scoring system, however, is that it provides little to no opportunities for credit invisibles to prove themselves. Research shows that a vast majority of Latin Americans and African Americans want lenders to look at additional factors in lending decisions. About 71% of borrowers expressed that they’re actually willing to share more personal data with a lender if it resulted in a fairer credit decision.

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Integrating alternative data sources in credit scoring and lending processes can significantly help credit invisibles build their credit history and scores. These sources can include bills for utilities, telecommunications, and rent; alternative lending payments; and demand deposit account information such as recurring payroll deposits and payments―all of which are already part of people’s regular financial commitments. 

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To prove how instrumental alternative data is in lending, an Experian study revealed that there was a 54% increase in the number of nonprime consumers and 15% in prime consumers when their on-time payments for utilities such as gas and electric services were included in their credit reports. Similarly, nonprime consumers moving to prime status saw a 50% decrease in interest rates when positive utility payments were added to their files. These data alone show that alternative data is key to financially empowering individuals.

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What it means to financial institutions

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Alternative data is just as beneficial to financial institutions. According to management consulting company Oliver Wyman, using alternative data sources can help lenders increase the number of profitable loans they make in line with a given risk appetite. Lenders can also reduce transaction costs, lower aggregate credit losses for any cut-off defined by a marginal loss rate, and increase competitive interest rates.

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Of course, sifting through various alternative data sources requires a considerate amount of time. Lenders can streamline this process with the help of technologies such as artificial intelligence, deep learning, data analytics, and more. 

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Credolab, for instance, offers digital credit scoring solutions such as embedded scoring technology, which lenders can integrate into their systems to better assess the creditworthiness of borrowers. By implementing an alternative credit scoring method, lenders can issue credit or loans faster and in a more efficient manner, while borrowers would no longer have to go through tedious processes just to apply for credit. Additionally, through our AI-enabled Fraud SDK solution, we are able to help lenders identify fraudulent customers early on in the lending process, saving them time and effort from transacting with the wrong people.

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In compliance with local data privacy laws such as the General Data Protection Regulation, we use non-intrusive and anonymous metadata to protect credit applicants as well. 

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By improving the lending process, more credit-worthy people will have access to money they need to make important investments. And when more credit or loans are issued to borrowers, economies will generally perform better as well. Clearly, the role of alternative data goes beyond helping credit invisibles finally become visible. Financial institutions should take this as a sign to reimagine their processes and open up more opportunities for people to be financially included.