Definition
A bankruptcy risk score is a product that indicates a consumer’s likelihood of filing for bankruptcy.
Analysis
A bankruptcy risk score is different from a traditional FICO based credit score. Although it pulls from much of the same information, a bankruptcy score goes beyond the risk of default. It actually calculates the potential that the consumer will file for bankruptcy.
This is useful for banks, credit card issuers and other financial institutions because it helps them to estimate their required reserves to offset bad debts. It can also help them wean a client off of their credit if they believe that the client shows signs that a bankruptcy filing could be imminent.
The score itself has a range of -200 to 2018. Unlike credit scores though, it is better to have a lower score, as a higher score indicates a higher propensity of filing for bankruptcy.
Credit card issuers began using bankruptcy risk scores increasingly in the 1990s. It allowed them additional information to base credit decisions on that went above and beyond what a traditional credit score could provide.
Negative Effects on Bankruptcy Risk Score
Certain consumer behaviors could have an impact on individual bankruptcy risk scores. For example, increased use of cash advances could signal a possible job loss or major emergency. A change in mortgage payments (such as from an interest rate reset) might indicate a risk factor.
Homeowners in a certain geographic location that has been hit hard by foreclosures might find that their bankruptcy risk score might increase. Even certain transactions, such as at a casino or a bar might be a factor.
These are all behaviors that have been studied, and the extent that each is included within the bankruptcy risk score formula is a closely held secret. In order to protect yourself, make sure that you are sending signals of economic progress instead of distress. Otherwise, you are more likely to experience the rate hikes and minimum payment increases that have boggled so many other cardholders.
