Credit scores are derived from credit bureau databases. The bureaus sell their own now, but the market leader in scoring has long been Fair Isaac and its FICO score. As Sullivan reports, a coding change at the bureaus or at Fair Isaac caused the scoring algorithm to presume that regular, on time payments as agreed were actually partial payments negotiated by delinquents as part of a workout strategy. Some consumers lost over a hundred points.

For years, Fair Isaac protected its scoring system like the Coca-Cola formula. No one could look inside the black box. They wouldn't even explain the general concepts and weighting of factors.

They claimed it was so consumers couldn't figure out how to game the system. They claimed it was to protect their intellectual property from would-be competitors.

It seems to me that another reason is they don't like to admit mistakes. For years, for example, their software downgraded consumers who were simply shopping around, for example, for the best deal on insurance or a new car. FICO instead presumed their multiple inquiries were precursors to credit-binge fueled bankruptcies.

Today, thanks to pressure from advocates and ground-breaking California legislation on credit score disclosure later incorporated into federal law, FICO's system is more transparent, it is richer (thanks to sales to consumers) and it has some competition. But it still needs to do a better job of preventing these sorts of errors before they happen.

In this case, either the bureau computers or FICO computers bungled entries that resulted from a laudable Sallie Mae program that benefited its younger borrowers by setting repayment schedules to ramp up as a young graduate's income increased over time. The mis-coding presumed these were not payments as agreed, but some sort of partial payment workout plan after a consumer's delinquency. (The default switch at a credit bureau is generally "D for deadbeats." The FICO analytics rely on the coding of the payment history it receives from the bureaus.)

Sometimes, creditors game the scoring system:
But Sallie Mae hasn't always been so altruistic. Several years ago, it came under Congressional pressure for failing to report to all the credit bureaus. Columnist Ken Harney helped expose the fiasco. This resulted in potentially lower scores for consumers when their score was calculated from a credit report at a bureau that Sallie didn't report to. Many young consumers only have a few trade lines on their credit reports. To use a collegiate analogy, it would be like calculating their cumulative grade point average on only 3, not all 4, of the courses they were taking.

Sallie did this intentionally -- both to deflate scores, making their customers appear less desirable to competitors who wanted to send them pre-screened offers, and also to make it harder for those competitors to find their customers generally, so they'd never send the offers in the first place. Sallie didn't want other student loan companies to offer loan consolidation deals. This was also during its high-flying days when it wanted to become a one-stop shop for all financial products. Keeping its own customers as a captive customer base and limiting their ability to shop around aided that business plan.

But it certainly made it harder for young consumers who were applying for auto or home financing to get the credit they deserve, when their paid-as-agreed student loan wasn't adding points to their score. Under pressure from the Congress, Sallie changed its ways. By the way, one of its lamer defenses at the time was that it was simply doing it for the students, since for every consumer who benefited from reporting, it claimed there was another who didn't make payments as agreed and would benefit from not having that negative trade line shared. Of course, that's ridiculous.

Another way to game the system and make your customers appear less desirable to competitors seeking to buy pre-screened lists from the bureaus to make offers is to report only partial information about them. Credit card companies, including Capital One and Citibank (again, Ken Harney was on the case), have been accused of doing this, in Congressional hearings and other venues. If you only report a consumer's credit card balance but not his or her credit limit, the scoring computers' default setting is that the current (or highest previous) balance equals the limit. If your balance equals your limit, you are of course maxed out. Maxed out consumers have lower scores.

I am not necessarily a big fan of pre-screened offers, which can led into too much debt. But some consumers may benefit. More importantly, remember that the consumer making his own or her own applications for credit is hurt also.

Finally, even though FICO guards the scoring algorithm as if it were the fabled Cocoa-Cola formula, it is prone to systemic mistakes as above, it can be spoofed by creditors as above, and it's even been reverse-engineered (by the Fed and others). "Pay no attention to that man behind the curtain, I am the great and powerful FICO," just doesn't cut it anymore.

In addition, the bureau coding systems contribute to the problem. Everyone involved needs to do a better job.