We rely on our credit score for everything from getting a mortgage or a car loan, to renting an apartment and even things like insurance and getting a new cell phone.
Though we may not always have the best credit scores, we want to do whatever we can in order to maximize that number.
Outside your mortgage, your student loan debt is probably the biggest outstanding loan you’re carrying. So if you get a better handle on how your student loan impacts your credit score, you can make some smarter choices.
Your FICO Score
The most widely used credit scores are FICO Scores, the model created by Fair Isaac Corporation used by most lenders to help them make lending decisions. Your score, which has a range of 300-850, is calculated solely on information in consumer credit reports maintained at the credit reporting agencies.
Your FICO Scores are calculated based on five factors; the importance of any one depends on the overall information in your credit report. It’s difficult to measure the exact effect of a single factor on your credit score is calculated without looking at your entire report because it will differ based on your entire credit profile.
That said, it’s certain that the higher your credit score, the more competitive the interest rate you will receive. Here’s a rule of thumb:
How Student Loans Build Your Credit
Student loans are good to build credit for new borrowers. Once you’re out of school, you want to pay them down.
Many students in college do not have a long credit history. Student loans can be a way to begin building that history because they don’t require a track record.
These loans will also negatively impact your debt-to-income ratio, which may make it difficult for you to finance large purchases once you’re out of school. For that reason, you’re going to want to start making efforts to tackle the balance as soon as possible.
This will not only allow you to finance larger purchases but will also allow you to start building a more diverse credit profile that includes revolving debt such as credit cards. This will further improve your credit score because installment loans such as student loans aren’t as heavily weighted in your credit score as credit cards.
Paying Student Loans Maintains Good Credit
Remember, a credit score is a numeric way of gauging your ability to repay debt. By making student loan payments on time, you’re showing the world that you not only CAN make payments, but you ARE doing just that.
Paying your student loans builds your good credit history by establishing a positive payment history, lowering your debt-to-income ratio, and proving an ability to make payments.
The Credit Impact of Deferment, Forbearance and Income-Dependent Repayment
Many borrowers worry that using repayment assistance, such as forbearance, could hurt their credit scores during the time they are not making payments. But that’s not the case.
Your credit score won’t suffer so long as you make the required payments. No payments are due during periods of deferment and forbearance, so there’s nothing negative going on. When you’re in an income-dependent repayment plan your payments are reduced – you’re not making less than what’s required of you.
So if you need to take advantage of forbearance, rest easy — it will not negatively affect your credit score.
Delinquencies Your Credit Score
If you account goes a few days or weeks past due, don’t panic: It is unlikely that this will lower your credit score.
Many federal loan lenders will not report your account past due to the credit bureaus until your account is 60 days past due at the end of the month. Just be sure to get your payment in as fast as you can.
If there is a delinquency on your credit report due to a late student loan payment, bringing your account current will reflect positively on your credit history and raise your score. A continued delinquency will drag your credit score down and the only way to improve it will be to eliminate the past due status.
How About Settlement?
When you settle a student loan debt, your credit report will be updated to show that the balance is zero and that the account has been settled for less than the full balance owed. The account and history of delinquencies will still remain on the report for 7 years from the original delinquency date.
Anytime you settle an account for less than the full balance, it is considered negative because the creditor agreed to take a loss and accept less than the full amount owed. Settling the debt won’t help your credit scores immediately, but it will give you the opportunity to end the prior delinquency and establish a new payment stream on other debts.
Remember that new lenders look for a pattern of positive credit management. The longer you have paid your other bills on time, and the further in the past the collection account was paid, the more positive your credit history becomes. In that respect, settling your student loans will let you start to show that new positive pattern the lenders look for.
I don’t usually recommend settlement if you’re nearing the statute of limitations on your private student loans. In that situation, settlement may involve paying a debt for which you are no longer legally liable. The negative credit information should automatically fall off your credit report 7 years after the account with the original creditor was first reported late. Paid accounts continue to report for 10 years. By paying an old debt, you’re adding years to the reporting.
The Impact of Student Loans on Your Credit Depends on You
How your student loans impact your credit score is largely in your hands.
If payments are currently being made, that’s good.
If payments aren’t being made and the account is delinquent or in default then you want to take steps to eliminate the debt or, at the very least, get back into timely repayment.
Using the tips in this episode will help you keep your credit score as high as possible – and in our society, that’s often the most important consideration.
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