6 types of alternative credit data for better loan decisions

For decades, credit scores have been the gold standard for lenders. However, credit scores alone don’t paint the full picture of a loan applicant’s finances because they don't consider factors like income or spending habits. As a result, both consumers and lenders are missing out. 

Incorporating alternative credit data, such as on-time rental payments and buy now pay later (BNPL) payments, can reveal a more holistic picture of a borrower’s finances. In turn, this “alternative data” to traditional credit scores can increase consumer access to loans at a lower interest rate. It can also expand credit access to nearly 49 million US adults with thin or no credit history, increasing lenders' customer bases. 

In this article, we’ll examine how alternative credit data is used, the different types available, and the business and social opportunities it creates.  

Alternative credit data: What is it, and how is it used?

Alternative credit data is financial information not typically reported to the three main credit reporting agencies (Transunion, Equifax, and Experian) that lenders can use when deciding whether to extend credit or offer a loan. For most loan applications, lenders rely heavily on data from these agencies—delivered in a convenient credit report format. 

Alternative data includes rent payment history, gig economy income, utility bill payments, childcare payments, BNPL payments, and more. Alternative credit scoring can supplement traditional credit data to increase loan approval rates while keeping risk in check, as traditional credit reports alone fail to paint the full picture of a borrower’s creditworthiness.

For example, a lender might be unlikely to approve an applicant based on a credit score of 600 alone. However, proof of income sources and a long history of on-time rental payments—good indicators of repayment likelihood—could potentially change that decision in the borrower’s favor. 

Alternative data also comes into play with credit invisibles, or people lacking a credit report or credit score. For these individuals, alternative data might be the only way to access loans. 

To use alternative data, lenders must first obtain it and then add it to their loan-approval decision process. For the former, they can ask applicants to manually upload documents such as bank statements and pay stubs or use Plaid’s credit solutions to gain access to this information in seconds.

They can also choose how much weight they want to give alternative credit data vs traditional credit report data—or even if they only want to rely on alternative data alone.

→ Want to verify assets and account ownership faster? Plaid’s credit solutions instantly provide an up-to-date view of a borrower’s bank accounts and assets.

What types of alternative credit data do lenders use? 

There are many types of financial data lenders can use to evaluate borrowers outside of the traditional credit report. These include:

Spending patterns: Account information pulled from consumer bank and credit card accounts shows money going in and out. Lenders can use this data to evaluate income and spending and determine if an applicant is eligible for a loan. 

Bill payments: Regular bill payments for everyday life such as rent, utilities, phone, and insurance can be used to show that a loan applicant has a history of paying their bills on time—and can thus be considered creditworthy. 

Rental payments: Rental history showing on-time payments over an extended period is a great way for borrowers to demonstrate their ability to repay a loan.

Alternative loan types: Some alternative loan types, such as buy now pay later (BNPL) loans and paycheck advances, can count towards creditworthiness—though they’re not always accounted for in traditional credit scoring. Consistent repayment on these loans is another data point lenders can use to assess applicants. 

Bank account assets: Historic, current, and pending bank account balances can help underwriters gain a more complete picture of a borrower’s finances. Lenders can ask borrowers to provide bank statements or link their bank accounts via an API-based open banking provider. Plaid, for example, provides access to all the account information the lender needs in seconds. 

Income data: Income information can be obtained from a user’s bank account data. Digital solutions like Plaid can directly connect with payroll providers and banks to retrieve this information in seconds. Lenders can also use documents like pay stubs, 1099s, and W2s to determine a borrower’s creditworthiness. Lenders can request loan applicants to upload these documents manually, but that process can be arduous and expensive.

What are alternative credit scoring models? 

Alternative credit scoring models include alternative credit data, such as rent payments or transactional activity, in addition to or as a replacement for traditional credit scores. This additional data creates a powerful borrower profile. A study by FICO found credit scoring models that incorporate alternative data alongside traditional credit data are more powerful than traditional data alone. 

Depending on the lender, alternative credit scoring models might include: 

• Transactional data, including credit and debit transactions

• Rent and utility payments

• Social network data 

• Website behavioral data, such as how they move through the lender's website.  

• Text or voice data during customer service calls 

• Survey or interview data 

Lenders can analyze this combined data to create alternative credit scoring models and determine creditworthiness in a different way. However, there are privacy issues with some types of alternative credit data. For example, using social media data presents regulatory challenges and can be influenced by the borrower.

The challenges of alternative credit scoring models

Many fintech companies rely on alternative credit scoring models to determine whether or not to extend credit to borrowers. However, there are challenges to the widespread adoption of alternative credit data. These include: 

• Data quality and reliability: The accuracy of alternative credit data can vary. Some data sources may have errors or lead to misinterpretation.  

• Privacy and security concerns: Using data like website activity or social media history can present privacy concerns. Financial institutions must also make a plan to ensure privacy and security. 

• Lack of standardization: Credit reports follow a standard reporting format, while alternative credit data does not. What is the value of 10 on-time rent payments or 2 years of on-time internet payments? Determining how this data predicts future payments can be challenging. 

• Ethical concerns: Using alternative credit data sources, like social media profiles or personal information, can raise ethical concerns about data collection or introducing biases into the process. 

Despite the challenges to leveraging alternative credit data, many organizations find that including alternative data sources in the credit scoring process benefits both lenders and borrowers, including the US Government Accountability Office and Consumer Financial Protection Bureau (CFPB).

The benefits of alternative credit data

These alternative data types can help lenders build a more complete borrower profile to replace or complement traditional credit reports. Even if lenders choose to continue using credit scores, adding alternative credit data to the mix offers useful benefits such as:

• Up-to-date information: Credit scores are often a lagging indicator of creditworthiness, often refreshed only once a month. Using alternative data such as recent cash flow and account balances provides a real-time view of a borrower’s financial state. Lenders can use this information to proactively detect signs of fraud or default and offer consumers better terms.

• Added convenience: Integrating with an open banking data provider can make accessing alternative data more convenient. Borrowers simply log in to their online banking or payroll provider during the application process to unlock all the data lenders need in seconds. Moreover, doing so doesn’t negatively impact their credit score, unlike running a hard credit check. A more streamlined experience offers an opportunity to build more trust with consumers.

• Greater insight for better risk management: A credit report is a testament to having paid off previous debts, but it isn’t a complete picture of financial health. Alternative data provides greater insights into a borrower's current financial state and can even find new risk factors that credit scores miss, helping lenders avoid potentially risky borrowers. More comprehensive information means smarter lending decisions, which drive profitable growth.

• Ongoing access: A lender can easily refresh consumer cash flow information when shared digitally. This helps them monitor for changes in cash flow and gain access to more up-to-date information in the loan decision process, resulting in faster approvals.

• A new customer base: Many people have steady incomes and asset profiles but have never taken out a conventional loan. In these cases, there’s either no or only a thin credit report to evaluate. Alternative data is crucial for helping these candidates access loans at favorable rates and build their credit history for the future. Of the estimated 49 million people in the US who don’t have a credit score, many could possibly qualify for a loan based on alternative data.

Alternative credit scoring is a growing business opportunity

On top of expanding financial access to those without credit histories, alternative credit data enables lenders to approve more borrowers without assuming more risk. Experian estimates that an additional 19 million US adults could be properly evaluated for credit with alternative data—a sizable new market for lenders. 

Moreover, using alternative credit data can help lenders offer matching or even lower rates vs. using credit scores alone, which means they can differentiate from competitors. One lender who integrated Plaid Assets and Income to access alternative data during the application process has been able to offer 29% more loans at the same rate than traditional methods. Another has used Plaid’s alternative data products alongside credit scores to offer 20% lower rates than when using credit scores alone. 

It’s worth noting that consumers are largely in favor of alternative credit data: 70% of Americans say they’d be okay with providing more financial data to lenders if it were to lead to better-informed credit decisions. For lenders who want to expand their business to new customers, using alternative data expands their reach while helping them better evaluate potential borrowers.

Source: Experian, Flexport, Petal

Alternative data expands financial access and equity

Younger and lower-income individuals are much less likely to have a credit score or favorable credit report than their older or high-income counterparts. That does not make them less likely to have a steady income and pay their bills on time, however. Using alternative credit files can help close these age and income-related gaps in financial access and equity, all while creating new business opportunities for lenders.

Additionally, alternative credit data can help those who recently arrived in the US gain a better financial standing or even start a new business. That’s because recent immigrants are less likely to have a credit score, as credit reports only consider US-based loans. 

The benefits of alternative data for lending are clear: Lenders get a wider pool and make better-informed decisions without compromising their risk profiles, applicants get more loan options at better rates, and individuals excluded from traditional credit scoring get their fair chance.

A robust alternative data option

Credit scores don’t paint the entire borrower picture, and lenders can benefit by supplementing them with alternative data. Government institutions and numerous studies have shown cash flow data to be effective in expanding the borrower pool and increasing business opportunities for lenders. However, with any data type, there are some risks. 

Using Plaid Check, our Consumer Reporting Agency (CRA), to gain fast access to a borrower’s cash flow data is a robust alternative option. It can help lenders qualify more applicants, improve risk management, help raise credit limits, and support repayment challenges with real-time data. It only takes a few taps for applicants to provide up to 24 months of cash flow data. 

Learn more by reading Plaid Check’s product docs, or contact us by filling out the form below.