Student Loans and your Credit Score
Student loans and your credit scores are related in two different ways. First, they are relevant when you begin applying for student loans to begin with. Then, secondly, they come into play when it is time for you to pay off your loans.
Applying For Student Loans
A student’s credit score is not always considered when applying for federal student loans, but a poor one that falls anywhere below 650 can potentially halt an application for a private student loan or completely withhold it. Federal loans cannot be used for housing or transportation costs, so many students get a private loan as well; in this case, the inability to get a private loan could definitely prevent certain students from attending college.
Applicants for federal loans should also keep in mind that even with a good credit score, a bankruptcy that was applied for within 90 days of filing a FAFSA application will result in an immediate rejection, no questions asked.
Your credit score can be checked on with any the three major credit reporting agencies. But before you do that, ask for a copy of your credit report from each of them. According to federal law, you are allowed a free copy from these agencies each year. Having this information in front of you will help you to find any information that is false, misleading, or outdated (in other words, having occurred more than a decade ago), and if this turns out to be the case, you can look into having it changed or deleted before you apply for student loans and risk rejection.
Repaying Student Loans
Repaying a loan quickly and on time is the best way to establish great credit after graduation. However, even if you do this successfully, there are a few other factors to keep in mind that could negatively affect your credit score.
Paying off your student loan early could potentially damage your credit score! If that sounds unbelievable, consider that student loans are installment loans. Although other types of debt, such as credit card, change over time, future creditors understand that a student loan means there is no larger balance of available credit. Your student loan debt payments will typically not change over your lifetime.
Since paying off an installment loan early can mean a loss of income (interest) on the loan to the lender, it could give them a negative impression of you.
Delinquency and Deferment
If you fall into delinquency, it is best to amend the crisis as soon as you can. Although it can harm your credit score to pay off too quickly, seeking a new job or a second source of income in order to catch up on your payments will cause even more severe damage on your credit rating. Once you resolve a delinquency by establishing an Income Based Repayment, Income Contingent Repayment, or another similar repayment option, your credit rating will quickly restore itself to the level it was at before you became delinquent, resolving the issue.
If you took out a student loan with a private lender, you’ll find that you have fewer repayment options than with a federal student loan. Even so, most banks will work with you to help not just you and your credit score, but to ensure that “bad” loans are not associated with them. The best option is to notify your lender before you miss a payment and set up a new repayment plan as soon as you can to avoid delinquency.
If you have already fallen into delinquency, you still have options, but you will need to establish a new repayment plan quickly and follow up with the lender and the credit reporting agencies to make sure any bad information about it has been updated. Once it is clear that you have gotten a new repayment plan, your credit score will look much better.
A student loan in deferment or forbearance will, fortunately, not cause any damage at all to your credit score. Payments are not required when a loan is deferred, so there is no way that you can be “late” in making them. If you have experienced a financial crisis due to unemployment or an extended illness or injury, consider deferment as an option to avoid getting a bad credit rating.
Student Loans are Good Credit Loans!
Since student loans are paid off in installments, they are weighed less against your credit score than other types of loans—much, much less than credit card debt, for example. If you do not have much other debt, besides perhaps a credit card, right after you graduate, paying back student loans quickly and on time can be a good way to establish good credit rating.
In addition, student loans are viewed as “good credit loans” because post-secondary education improves earning potential and is not simply a luxury purchase, such as something you might buy with a credit card. These factors mean that student loans, be they federal or private, fall neatly into the category of “good credit” and allow you to make a good impression.
Advantages to Federal Student Loans
Unlike private lenders, federal student loan lenders do not report past due accounts until they are 60 days past due. Even then, they do not approach you until the end of the month. This provides a federal student loan holder additional time to pursue repayment options or request deferment for the loan.
If you do choose deferment and have your request granted, federal student loan lenders report it to the credit agencies automatically. In some cases, they will even backdate it, if your circumstances require this.
Consider this example: a borrower returning to school to pursue a second degree might not file the appropriate notification paperwork in time. In this case, the period for which their loan was delinquent can be removed from your credit history once everything has been filed correctly.