Raising Credit Score From Zero to 789, in 26 Months
Shweta Kohli has always paid her own way. Her straight-A average won her a full scholarship to San Francisco State University at the same time she worked a 40-hour week as a waitress at a cafe. But when she applied for a credit card after graduation, she was turned down because she had no credit history.
So three years ago, Kohli, now 34, joined a lending circle - a small group of people who chip in every month to lend money to one another at no interest. Managed by the Mission Asset Fund, a nonprofit group in San Francisco that works with credit-rating agencies, the circle offered Kohli something no bank would: a chunk of cash and a chance to build a credit score.
After faithfully making payments - and socking away enough to buy a 1997 Ford Mustang - she raised her credit score from zero to 789 in 26 months. Kohli, ever the striver, said: "My goal is to keep it at 850, the highest."
While informal lending circles among families, acquaintances, co-workers and neighbors are familiar to hundreds of millions of people all over the globe, they are rarely recognized by mainstream financial institutions. But now these centuries-old networks are being seen as a promising tool to help low-income Americans build credit records, part of a new frontier of the war on poverty that has attracted a crazy-quilt coalition of supporters that include major banks, immigrant activists and academic researchers.
In August, California became the first state to enact a law allowing nonprofits to offer small no-interest, no-fee loans, attracting unanimous support from Republican and Democratic lawmakers.
"It crosses party lines, it crosses ideological lines because it's so simple," said Sen. Lou Correa, D-Santa Ana, who sponsored the bill.
"Access to credit is very important in breaking the cycle of poverty," Correa said.
Without a credit score, you cannot get a car loan, rent an apartment, obtain a mortgage or build a business. Prospective employers and even dating services frequently check credit scores, which a credit-rating agency generates based on a person's history of debt and payments.
"It's very hard to be a part of the economic mainstream" without credit, said Amy Brown, a program officer at the Ford Foundation. "Over time, it makes it really hard to build wealth and move up."
As many as 64 million Americans lack this type of paper trail, leading them to rely on alternatives like exorbitantly priced payday lenders and check-cashing stores.
"A credit report is like a passport to the financial marketplace," said Jose Quinonez, chief executive of Mission Asset Fund. "Without that passport, you're denied entry."
Making payments on time to other members of the lending circle is just like paying off a bank loan or a credit card, supporters point out. The only difference is that one activity is recorded - and can therefore be used to build a credit score - and the other is not.
"Credit scores are calculated with data that is too narrow," argues a new report on informal lending and saving tools from U.S. Financial Diaries, a research study of low- and moderate-income families: "It may be just as relevant to a lender whether a prospective borrower has the discipline to make regular savings deposits as to make regular loan payments."
Advocates and financial institutions have increasingly been looking for new ways to assist those who are off the financial grid to plug into the system, said Robert Annibale, global director of community development and microfinance at Citibank, which is investing in several pilot projects.
Some banks offer credit building loans - a kind of loan with training wheels - in which people borrow money for the sole purpose of paying it back. The Credit Builders Alliance, a membership organization of nonprofits, helps low and moderate-income households report payments like rent to credit-rating agencies.
Mission Asset Fund formalizes the informal loans arranged through lending circles by making sure all the participants sign a contract or promissory note and reporting every payment to national credit bureaus.
The fund represents only a minuscule portion of the lending industry - through partnerships with 26 other nonprofit organizations it has facilitated about $3 million worth of loans among 2,200 people - but the Ford Foundation has recently issued a $350,000 grant to help expand its program nationwide.
"It's a new take on efforts to build credit," Brown said. "It's sort of brilliant, as a social justice philanthropy."
The fund has also received support from some big banks, including JPMorgan Chase and Citibank.
Quinonez, the fund's director and a native of Mexico, said his own family used lending circles when he was growing up. The conventional view that low-income people are financially illiterate, he says, is mistaken.
"They were managing money in ways we just didn't understand or conceptualize," he said.
Known as tandas in Mexico, susas in West Africa, pandeiros in Brazil and huis in Asia, these informal savings and lending networks continue to be a mainstay of immigrant communities around the country.
Generally each member of a small group - six to 10 people - contributes a set amount of money, say $100, on a regular schedule for a set period of time. Each member of the circle in turn receives the whole pot until everyone gets a payout. Circles continually disband and regroup.
Mission Asset Fund, which also provides extensive financial counseling and education, markets its lending circles around what it calls "financial pain points": a security deposit to rent an apartment, the $680 citizenship application fee, the $465 fee for a deportation deferral and a temporary work permit.
Saving for the deferral is what led Alan Santos, now a 21-year-old college student and part-time debate coach, to join a lending circle two years ago to lift his credit score of zero. "Now it's almost 700," he said proudly.
Immigrants are the primary users, but not the only ones. Lending circles administered by the San Francisco Lesbian Gay Bisexual Transgender Community Center, for example, have a zero default rate.
"What they have is a social connection," said Quinonez, whose group teams up with the center, "and that's what made them perform really well."
Just as dieters join Weight Watchers instead of going it alone, people join lending and savings circles to help reach a specific goal.
A few commercial services aimed at organizing lending circles, including Yattos, Puddle and eMoneyPool, have recently sprung up. They help clients form circles using their own Facebook and social media contacts. Users generally provide each other with no- or low-interest loans but pay the company a coordination fee. Payment activities are not regularly reported to the credit-rating agencies, however, so they do not count toward a participant's credit score.
As for Kohli, she is now working for a software company in the San Francisco Bay Area and has joined another lending circle to save for a condominium so she can move out of the one-bedroom she shares with two roommates.
Her wallet contains a range of credit cards - American Express, Discover, Visa and Master Card - but said she only uses them to buy gas. She prefers to pay for everything she buys upfront and in cash.
