New proposals from the Consumer Financial Protection Bureau (CFPB) could help put an end to the negative effects of medical debt on Americans’ credit reports.
The proposals from the Biden administration would prohibit unpaid medical bills from being factored into consumers' credit scores.
As of June 2021, US consumers held roughly $88 billion in medical debt, according to the government agency. An estimated 41% of Americans are grappling with medical debt of some kind, ranging from unexpected medical events to surprise medical bills, out-of-pocket costs, and more.
Eva Stahl, vice president of public policy at the nonprofit RIP Medical Debt, says the wide swath of debt affirms that it's "not a good predictor" of someone's creditworthiness.
"It’s truly both important and meaningful for people to have medical debt taken out of their credit reports," she told Yahoo Finance.
According to a 2022 survey from the Kaiser Family Foundation, 47% of US adults with medical debt have been contacted by a collection agency within the past five years due to unpaid medical or dental bills, while 35% have reported it negatively affecting their credit score.
'You can't anticipate it'
Medical debt can have devastating effects on finances.
A recent survey from the Commonwealth Fund found that 36% of working-age adults received a lower credit rating, while 37% used up all or part of their savings, as a result of debt.
Read more: Personal loan vs. credit card: What to use for an emergency?
Meanwhile, 36% of working-age adults with medical or dental debt reported that it caused them or a family member to delay or avoid getting necessary care or prescription drugs, while 39% reported cutting back on basic necessities like food, heat, or rent.
"People are making trade-offs around basic needs. There are more problems around unpaid medical bills than just reporting your medical debt to a credit agency," Stahl said.
Further compounding the issue is that credit agencies are not required to inform consumers if there is outstanding medical debt weighing on their credit scores.
"That’s the nefarious thing about all this is people could have adverse credit marks on their credit reports without even knowing this is happening to them," Benjamin said. "You only find out you have this if you’re getting a mortgage or for credit. It’s kind of outrageous."
In April 2023, the three main credit bureaus — Equifax (EFX), Experian (EXPGF), and TransUnion (TRU) — removed medical debt collections under $500 from consumer credit reports. (Most medical debts are under $500.)
The Urban Institute estimated that as a result of this move, more than 15 million consumers may have had all their medical debt in collections erased from their credit files in the past year.
The stigma around carrying debt persists even though experts like Elisabeth Benjamin, vice president of health initiatives at the Community Service Society of New York, note that medical debt is quite unlike any other form of debt.
"No one really chooses to incur it," she said. "You choose to incur a car payment, so it’s easier to budget for. That’s why you should have your credit risk evaluated based on what you can anticipate, not an act of God. Medical debt is not something that’s voluntarily incurred. You can’t anticipate it, you can’t budget for it, and that’s why it’s different."
Unintended consequences
While most experts praised the move by CFPB to eliminate medical debt from credit reports, some raised concerns over the implications.
For example, RIP Medical Debt's Stahl noted that removing medical debt from people’s credit reports means the loss of an "important data point" — how much debt people are incurring.
This is because medical debt is mainly tracked by the amount in collections, along with one question in the once-a-decade US census.
Julia Fonseca, assistant professor of finance at the University of Illinois-Urbana Champaign’s Gies College of Business, noted that because the CFPB proposals would remove information from credit reports, lenders may internalize that they may not be seeing all the information that they typically would.
"They might adjust their risk pricing, risk models in response to that change," Fonseca told Yahoo Finance, adding that if they no longer see the debt, "they're going to adjust" expectations — and pricing — "for everyone."
A 2019 research paper looked at these types of effects in Chile, where credit bureaus were required to delete information from credit reports in 2012 as part of a large-scale national experiment. The paper found that, in the aggregate, borrowing decreased by 3.5%.
Fonseca said such a change could push more people toward payday lenders, which are often predatory and expensive.
But Chuck Bell, a financial policy advocate at Consumer Reports, said the CFPB move would increase accuracy more than anything else.
"We have a very complex medical billing and reimbursement system, and it often takes many months for bills to be settled or adjudicated," Bell told Yahoo Finance. "And so sometimes debts are reported to credit bureaus that have already been paid off by the insurance company."
He added: "When you take that information out, you’re actually making the reporting system much more accurate for the primary purpose which it was created: to grant credit to consumers for loans and credit cards and so forth."
Bell said he's "confident" that financial institutions will "adjust to this new reality."
For CFPB, that means enforcing legislations like the Fair Debt Collection Practices Act and the Fair Credit Reporting Act and implementing penalties against debt collectors that violate these laws.
"They’re doing these initiatives … so it really is part of a big paradigm shift," Bell said. "I think it’s really great the federal government is helping to lead the way to reform the way that’s reported, but I also think it’s important we reduce the underlying costs of medical services themselves. We have to go hard against the debts that are being accumulated, but also hard against the rising costs that make them even more expensive."
Adriana Belmonte is a reporter and editor covering politics and healthcare policy for Yahoo Finance. You can follow her on Twitter @adrianambells and reach her at adriana@yahoofinance.com.
