Given how many people have student loans, it is common to wonder whether they affect your credit score and how. Discover the various ways that your student loan can impact your creditworthiness.
Yes, your student loans affect your credit score. They can help the score when you make on-time payments. Student loans also diversify your credit mix and add to your credit history. But any missed payments hurt your score, as does defaulting.
Credit scores are complicated, as is the way that your student loans affect them. Keep reading to learn details about how specific scenarios will help or hurt your credit rating.
Discover How Student Loans Affect Your Credit Score
Before taking out a student loan, it is important to recognize that it will affect your credit score. This happens in both good and bad ways, from showing you have a strong credit history to adding to your debt.
Even if you already have student loans, it is never too late to learn how they affect your credit score. After all, they will continue to affect major financial decisions such as buying a house or opening a new credit card. Even the act of paying off your student loan will impact your score, and you need to understand how they do so.
How Do Student Loans Affect Credit Score?
The simplest explanation of how student loans affect credit score is that they appear on your credit report just like any other loan would.
This means that every action you take regarding your student loans will also affect your score.
They Can Help You Establish Credit History
The fact that student loans appear on your credit score can be especially helpful given the age at which most people take them out.
For reference, one key part of your credit score depends on how long your credit history is. This means that if something appears on your report for longer, it can boost your score in the long run. Student loans are a good example of this.
Assuming you take out student loans at age 18 to go to college, they will likely be one of the first things on your credit report. Perhaps there will also be a credit card or two. The bottom line is that they establish your credit history.
Essentially, credit rating agencies see that you have utilized some of your credit since you were 18 years old. As you get older, this means that your credit history is as long as possible, which reflects well on you.
They Establish a Credit Mix
In addition to establishing a longer credit history, student loans help you establish a credit mix. This refers to the types of credit in your credit report, such as loans and credit cards.
However, keep in mind that your credit mix is a smaller contribution to your credit score. As such, it is a benefit if you have to take out a student loan, but you should not take out an additional loan just to improve your credit mix.
What Happens When They Are Deferred
While you are still in school, your student loans are deferred. This means you won't accumulate interest and don't have to pay them yet. At this stage, they won't affect your credit score, but they will appear on your credit history.
What Happens When You Make Payments on Time
When you make payments toward your student loan on time, this will help you maintain a positive credit score. In this sense, paying your student loans affects your score in the same way any on-time loan payment would.
The key here is that your lender has to report your on-time payments to the credit bureaus. Most student loan lenders will do this automatically. However, it is smart to confirm this is the case with your loan.
What Happens When You Miss a Payment
As with any other type of loan, if you miss a payment on your student loan, it can hurt your credit score. However, the good news is that your lender will not report the late payment if it is just a day or two late.
If you have a private student loan, your lender can report it after 30 days. If you have a federal student loan, your servicer can report it after 90 days.
If you don't pay your federal loan installments for 270 days, the loan goes into default. This is even worse for your credit score and will be discussed in more detail below.
But remember that just because your lender can't report the late payment (called delinquency) right away, that doesn't mean it won't affect you. They can charge interest regardless of how late your payment is. That interest can affect how long it takes to pay off your loan.
Similar post: Could Medical Bills Affect Your Credit Score?
How Long Do Delinquencies Stay on Your Credit Report?
You want to do whatever you can to avoid late or delinquent payments, as they will remain on your credit report for a full seven years.
What Happens When You Default
For federal loans, you default if you have not made a payment in 270 days. For most private loans, this is just 120 days.
If you default on the loan, expect a hit to your credit score.
In the case of federal loans, the lender can recover the loan amount from the government. This will appear on your credit history as a government claim, which will hurt your score.
In the case of private loans, the lender may sell your loan to a collection company. Unfortunately, the original loan default will stay on your report, and the collection company will appear. Additionally, just having a collection account can hurt your score.
Like late payments, defaults remain on your credit report and continue to affect your score for seven years.
What Happens When You Pay Them Off
Overall, it is good to pay off your student loans. If you have another installment loan you are paying off, you should see a boost. This will come from your reduced debt.
However, if it was the only installment loan you had, your score may drop slightly. This is because of the negative effect on your credit mix. Importantly, experts say you should pay off your loans if you can, even if it hurts your credit mix.
What Happens If You Change Your Loan Terms
As mentioned, defaulting on your student loans is bad for your credit score. If you know you cannot pay as planned, talk to your lender or look for a solution.
Depending on your lender and financial situation, you may be able to:
- Get an income-driven repayment plan (for federal loans)
- Get a modified payment plan (for private loans)
- Enter forbearance or deferment for a pause
This is important because if you and your lender make a new agreement, switching the loan terms will not hurt your credit score. From there, you simply have to follow the terms of the new agreement to maintain your score.
Further Reading: Credit Card Refinancing: The Best Ways to Refinance
What Happens If You Refinance
At some point, you may decide to refinance your student loans. This is a smart way to make them more manageable.
One crucial thing to remember about refinancing is that lenders will check your credit. These hard inquiries can drop your credit score slightly. However, multiple hard inquiries within 14 days (or 30 or 45, depending on the model) only count as one.
This means that if you plan to refinance, submit all loan applications within 14 days of each other to reduce the impact on your credit score.
Refinancing can lower your monthly payments or interest rate, especially if you are an adult with good credit when you refinance. However, refinancing can eliminate some benefits. For example, it will reduce the age of your credit history, as you will close the loan account you opened at 18. You may also lose benefits of federal loans, such as loan forgiveness or deferment.
How Much Do Student Loans Affect Credit Score?
Once you understand how student loans affect your credit score, the question becomes to what extent they do so.
What Percentage of Your Score They Can Affect
It has been established that your loans don't affect your credit utilization ratio, which makes up 30% of your FICO score. But student loans can affect the following:
- Payment history: This makes up 35% of your FICO score.
- Debt-to-income ratio: This makes up 30% of your FICO score.
- Length of credit history: This makes up 15% of your FICO score.
- New credit (applications for lines of credit or refinancing): This makes up 10% of your FICO score.
- Credit mix: This makes up 10% of your FICO score.
They Affect Everyone to a Different Degree
Because of all the factors that go into your credit score, student loans affect everyone to a different degree.
For example, someone with an excellent credit score who misses a payment may find a larger drop than someone with a fair or good credit score.
Remember How Long Late Payments Stay on the Report
As mentioned, late payments will stay on your report for seven years. This means that they will continue to affect your credit score for that long.
It is common to have student loans, and as with any other loan, they will affect your credit score. They have both positive and negative effects on your credit rating. They help you establish a credit and payment history and a credit mix. But they can negatively affect your debt-to-income ratio.
The most important determiner of how your student loans affect your credit score is your payment history. If you make on-time payments, they will be good for your score. If you miss payments or default on your loan, this can stay on your report for seven years, hurting your score and ability to get loans.
Related post: Can Refinancing Hurt Your Credit? [ANSWERED]
Shawn Manaher is a former financial advisor, has founded 5 online businesses, and is a coach, speaker, podcast host, and author. He's been featured on The Consults Corner on TAE Radio, The Writing Biz, What's Your Story, and more.