Would you be surprised to know student loan borrowers with FICO scores below 670, in some vintages, have 8 times higher default rates than those with higher FICO scores. That was true for at least one private student loan portfolio.
Here were the charts that demonstrated that relationship which I found in a MEFA [Massachusetts Educational Financing Authority] bond offering prospectus. MEFA provides an alternative loan product to both students who are residents of Massachusetts or those attending a Massachusetts institution. In evaluating their private loan vintages since 1999, note that only 12% (8% were between 630 and 669) of their portfolio consisted of loans where the borrower's FICO scores were below 670 (bet they are happy about that now). Note also that 99% of the loans in the portfolio were for students at four year institutions and 93% had cosigners [It would be interesting to know what percentage of borrowers under 670 had cosigners to see if this was a primary driver to those high default rates].
Let's look at a few examples below [amazing to see how the curves on the sub-670 borrowers become much steeper beginning in 2005]:
- The 2005 vintage
- Over 670 FICO has cumulative default rate of about 1.7% to 1.8%
- Under 670 FICO has cumulative default rate of 16%.
- The 2006 portfolio
- Over 670 FICO: Cumulative default rate of almost 3%
- Under 670 FICO: Cumulative default rate of over 14%
So, when the pendulum swings back and lenders move beyond lending principally to folks with high credit scores (Sallie Mae is originating loans today to borrowers with average FICO scores close to 750), a premium will be put on systems that can underwrite to lower FICO score borrowers by collecting additional factors on that borrower that might mitigate the risk of their default.
So, the next time you bemoan the fact that your students and their coborrowers with sub-700 FICO scores are having difficulty getting private loans, at least you know why the lenders might be turning them down.