At over $1.4 trillion, student loan debt in America is right up there with mortgage debt in the category of Things We Wish We Could Live Without. However, if you have a student loan or are considering applying for one, don’t be scared off by statistics! Student loans are annoying and frustrating and expensive, yes, but they’re also an opportunity to pursue higher education, to increase your future salary, and to start building your credit score. Paying off your student loans responsibly will provide your credit reports with a solid basis for creditworthiness, and everyone from your lender to your landlord to your cellphone provider will be friendlier towards you in future dealings.
If you’re smart enough to get into college, you’re also smart enough to put your otherwise-annoying loan payments to good use! Just don’t forget: student loans, like every other type of loan, will always have an effect on your credit score, and it’s up to you to decide whether that effect will be positive or negative.
1. Paying Before Graduation vs. Paying After
Most student loans do not require repayment until after graduation, so waiting to pay is a valid decision, especially if you know you won’t be able to make your monthly payments on-time. Of course, as with every other loan repayment program, there’s also a downside to waiting—unsubsidized loans will start accruing interest once issued, which means higher overall costs. Talk to your lender to find out if your loan is subsidized or unsubsidized, and whether it’s best for you to start a repayment program before graduation.
If you can afford to start making payments in college and do so responsibly, your credit score will be positively impacted. Starting payments early will lengthen your credit history, which counts towards 15% of your FICO score. Better yet, a history of responsible student loan payments—meaning that you always pay your bills on-time and in-full will substantially boost your credit score as payment history makes up 35% of the FICO formula. However, if you start missing these payments or fall behind without contacting your lender to discuss other repayment options—such as waiting until after graduation—your credit score could take a serious hit.
2. The Three D’s: Deferment, Delinquency, and Default
A deferment is a temporary suspension of loan payments for borrowers who have reenrolled in school, are unemployed, or who are experiencing economic hardship. If your loan is unsubsidized, you will still have to make interest payments during deferment; failing to make these payments will result in higher loan payments in future. If you are having trouble paying back your loans, you should discuss with your lender whether you qualify for a deferment. If a deferment is granted, you should work to save up money so you can stay current on loan payments when suspension has ended. Until your deferment has been granted, you must continue making payments or risk delinquency and default, which can have serious consequences for your credit score.
A delinquency is a missed payment on your student loans, and you will be notified by your loan servicer if you’re more than 15 days late on your payment. Being in delinquency even once can negatively affect your credit score and may prevent you from accessing interest rate discounts on your loans. If you are delinquent for more than 270 days, you will enter default, which means you have failed to make your loan payments and have therefore breached the legal document you signed when the loan was first issued. As such, you risk having legal action taken against you by your loan servicer. Additionally, the total cost of your loan with accrued interest will be due immediately upon default, so say goodbye to small installment payments.
Default is a worst-case scenario which you should avoid at all costs. It tanks your credit score, makes you ineligible for additional federal student aid, racks up legal fees and additional interest, could result in your tax returns or even a percentage of your wage being withheld to offset your debt, and will stay on your credit reports for years. Deferment is okay and delinquency is tolerable as long as you make your payment, but defaulting is an extremely difficult situation to get out of and should be avoided if possible.
3. Shopping Around and Refinancing
For those borrowers looking to refinance their student loans to get the best possible interest rate (and sometimes lower monthly payments), one thing to keep in mind is that shopping around for a better rate might negatively impact your score if you’re not careful. Each new loan application will trigger a hard inquiry, which will slightly lower your credit score and remain on your credit report for at least two years. Luckily, ignores any additional inquiries in a 30 day period for student loan shoppers, so keep your shopping period within that time period and FICO will count all of your inquiries as one—you’ll still see a small drop, but it shouldn’t greatly impact your credit score.
Student loans are an investment in your future and your credit score, so don’t treat them lightly! If you pay off your student loans responsibly, you will enter the professional world with lower interest rates, better loan and payment options, and higher customer satisfaction. Put your debt to good use by staying current on your student loan payments, and your post-grad future will not only be less expensive, but less stressful as well.