Unexpected hurricane victim: your credit score
KC Fed research finds storms can devastate credit among the unprepared
Focusing on credit scores and what consumers can do to improve them
The path of a hurricane includes more than flood and wind damage. In their wakes, hurricanes also leave substantial credit score damage – especially among those who are financially unprepared.
A new working paper by the Kansas City Federal Reserve Bank senior economist found that a category 1 hurricane – with wind speeds between 74 and 95 miles per hour – can cost consumers more than 80 credit score points if they’re not financially prepared. The Fed said the worst credit score damage tends to befall consumers with unpaid bills and relatively high credit utilization – both key factors in FICO’s traditional credit scoring formula.
But even consumers who are caught up on their bills and use only a small amount of their available credit can see their credit scores drop in the wake of a hurricane.
The paper, “Financial Vulnerability and Personal Finance Outcomes of Natural Disasters,” was released Sept. 1.
The report’s findings are based on the observed financial impact of Hurricane Humberto, which struck southeast Texas as a Category 1 storm in 2007. In areas where only 1 percent of the population had unpaid bills, the aggregate credit score reduction was 16.2 percent. But in areas where roughly 5 percent of consumers had unpaid bills, the average credit score loss was a staggering 81.2 points. Half of the areas affected by Humberto saw an average credit score reduction of 46.4 points.
The study also found a proportional link between credit utilization and hurricane-related score damage. Credit score reductions ranged from 17.9 points for consumers with 10 percent utilization to 71.2 points for those with 40 percent utilization.
A sudden credit score plunge can prevent a consumer from getting favorable terms on credit cards or loans, or securing credit at all. Experts generally agree that a credit score in the mid-700s allows the average consumer to get the best rates. FICO considers 670 to be the lower range of a “good” score, and the national average was 700 as of July 2017.
Kansas City Fed Senior Economist Kelly Edmiston, who wrote the report, stressed that there’s no guarantee any consumer’s credit score will collapse in the wake of a natural disaster. But the study does underscore the importance of preparing your finances for an event that could turn your life upside down.
The stress of a preparing for a powerful storm can make it difficult to focus on your finances, perhaps leading to credit missteps that hurt your score. But Edmiston said many people affected by disasters tend to downplay the danger they’re in beforehand.
“The problem’s not so much that they’re making mistakes in preparing for a disaster, but they underestimate the likelihood that they’ll be affected,” he said.
Edmiston noted that some banks, card issuers and even credit reporting agencies are willing to show mercy to natural disaster victims to minimize financial stress. However, it’s up to the consumer to contact the issuer or the credit bureau to let them know their situation.
“It’s important that [issuers and credit bureaus] separate those people who are a genuine credit risk from those who are a good credit risk, but things have turned south on them because of an act of God,” Edmiston said.
More evidence from Katrina
The Fed’s latest report isn’t the first to find a correlation between hurricanes and credit damage. A working paper released by the Cleveland Fed in 2015 showed there was a 10 percent increase in the 90-day delinquency rate among New Orleans residents whose homes were flooded during Hurricane Katrina.
However, that study only showed a marginal 4-7-point drop in credit scores for flood victims. It also revealed that residents in the most flooded areas saw a large and immediate reduction of debt after Katrina, primarily because many people paid off their mortgages with flood insurance money.
How to prepare
financially for a natural disaster
There are steps you can take to prevent financial distress – including credit score damage – in anticipation of a natural disaster such as a hurricane.
- Pay as many bills as
A natural disaster such as a hurricane could leave you without electricity or access to a bank branch or ATM for several days. If you’re carrying balances on credit cards, make a payment on each card before the storm reaches your area. Even if you make just the minimum payment on a card, it will prevent you from incurring a delinquency if you can’t find a way to pay your bill on time.
- Let your card issuers
know if you’re evacuating.
If you’re planning to stay in a different town for an extended period, it’s a good idea to let your card issuers know in advance. A flurry of card transactions in an unusual place could prompt your issuers to suspect fraud and decline the purchases.
- Ask your issuers for
higher credit limits.
If you’re in the crosshairs of a major hurricane, and you expect significant property damage, you may need to rely on credit to make repairs or secure living arrangements in another town. It may be a good idea to ask your issuers to raise your credit limits to avoid maxing out your cards.
- Get cash and keep it
Keep a stack of bills handy in case you’re not able to pay with a card at stores affected by the storm. For instance, if a merchant decides to open its doors to customers during an electrical outage, its card payment terminals may not work. Be sure to keep your emergency cash dry by storing it in a plastic bag.
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