Do Student Loans Affect Your Credit?
August 6, 2019
Student loans affect your credit in a positive or negative way depending on how you repay them.
Student loans are a great way for people to prove early on that they’re financially responsible. This can put people ahead with their credit.
On the flip side, if you don’t make your payments on time or let them default, it can negatively impact your credit and make it difficult to get approved for credit later on.
Let’s explore all of the ways student loans can affect your overall credit and the different student loan repayment options.
Positive Student Loan Effects on Credit
Getting a student loan can be an easy way for students to start building credit. Usually, you need to have credit to build credit. Since a federal student loan doesn’t require a credit check or credit history, this can help you get approved for other credit accounts, like a credit card, later on.
Your credit score is made up of five components: payment history, credit utilization, length of credit history, credit mix, and new credit. Your student loan payments will impact several of these factors.
Grow Your Payment History
Payment history makes up 35% of your credit score. By making on-time student loan payments, you’ll gradually build a positive payment history. This, in turn, impacts your credit. Lenders and credit card companies will look closely at your payment history when deciding to loan to you in the future.
Add to Your Length of Credit History
Length of credit history makes up 15% of your overall credit score. Student loans typically take a minimum of 10 years to repay, which will help you build a long credit history. If you are able to pay your loans in a shorter amount of time, it’s recommended.
Ten years of on-time repayments can do a lot to help your payment history and credit age. Lenders will be more likely to view you as financially responsible.
Build Your Credit Mix
Having a healthy credit mix, or different types of credit, makes up 10% of your credit score. Types of credit can vary from student loans, credit cards, mortgages, or auto loans. The more credit mix you have, the better your overall report looks to lenders. Having student loans adds to your credit mix.
If you have multiple loans, you can consolidate it into one payment so that you don’t have to keep track of multiple payments. If your monthly payment is too high, you can work with your student loan agency to come up with a new repayment plan. With federal student loans, there are lots of options.
Student loans can positively affect credit:
- Help build your payment history (which makes up 35% of credit score)
- Adds to your length of credit history: 15% of credit score
- Adds to your credit mix: 10% of credit score
Negative Student Loan Effects on Credit
Student loans can be a great way to build your credit. However, if you don’t manage them responsibly, they can have a negative impact on your credit. Many people find themselves with unmanageable student loan debt and end up making late payments or defaulting.
Just as an on-time payment affects your payment history, so do late payments. Late payments can stay on your credit reports for up to seven years. If you frequently make late payments, this can damage your credit.
90-day late payments are worse for you than 30-day late payments, although they have a negative impact as well. If you’re having trouble keeping up with your payments, reach out to your lender and come up with a new payment plan.
Defaulting on Payments
Defaulting on payments is worse than making late payments on your student loans. When you default on a loan, it means you’ve stopped making payments altogether. For federal loans, default status occurs when you don’t make payments for 270 days.
Student loan default also stays on your credit report for up to seven years. What’s worse, is these accounts can get sold off to collections, or you can be sued for the unpaid balances. If you’re sued, your wages can be garnished. A collection or a judgment can also show up on your credit reports, which have a severe impact.
Negative student loan effects on credit:
- Late payments affect your payment history: Stay on record for up to 7 years
- Default on payments: Stays on record for up to 7 years, potential to be sued
Student Loan Repayment Options
Federal loans offer many repayment plans. Typical repayment plans allow you to pay off your student loans within 10-30 years.
Many people find it difficult to keep up with these plans, so the Federal Government has different options. For a more extensive list, visit the Federal Student Aid site.
Pay as You Earn Repayment Plan (PAYE)
With this repayment plan, your monthly payments are 10% of your monthly discretionary income and you pay your loans off within 20 years. If you have any remaining balance after 20 years, it’s forgiven. Payments are calculated based on your income and the number of people in your household. You have to update your income every year.
Income-Based Repayment Plan (IBR)
Like the PAYE and REPAYE plans, you repay your student loans over a period of 20-25 years. How much you pay is based on the size of your household and your income. You have to update your income each year.
The amount you pay each month is 10% or 15% of your discretionary income. If you have any remaining balance after the repayment period, it’s forgiven, but you may have to pay taxes on it.
Income Sensitive Repayment Plan
This plan is based on your income and your loans are repaid within 15 years. Remember to contact your student loan servicer to help you figure out which repayment plans you’re eligible for and which ones will work for you.
Student Loan Repayment Options:
- Pay as You Earn: Repay 10% of monthly income, within 20 years
- Income-Based: Repay 10% or 15% of your income, within 20-25 years
- Income Sensitive: Based on income, repay within 15 years
Deferment or Forbearance
Federal student loans offer lots of different payment plans. If you can stick you your payment plan, there are different repayment options. If you can’t make your payments at all, you can apply for deferment or forbearance. Both allow you to stop making payments for a certain amount of time, but there are some differences.
When your loans are in deferment, they do not accrue interest. When your loans are in forbearance, you don’t have to make payments, but they still accrue interest.
Student Loan Rehabilitation
If your student loans are already in default, there are things you can do to help your credit recover. One option for federal loans is student loan rehabilitation.
In order to rehabilitate your student loans, you need to contact your loan provider. Basically, after going over your income, your student loan provider gives you a repayment plan for ten months.
If you make nine consecutive on-time payments during this period, your loans are pulled out of default. This can help your credit, although the late payments that occurred prior to default still remain on your credit reports.
The default looks worse than the late payments though so this can still help. If you get your loans out of default, then you also don’t have to worry about collections or judgments.
It’s important to take care of your student loans. If you have federal student loans, there are lots of different plans for paying off but you must communicate with your student loan servicer. This can keep you from defaulting or making late payments on your loans.
In answer to the original question of whether student loans affect your credit, the answer is yes. If you handle your student loans responsibly, you’ll be setting yourself up with good credit. If you start making late payments or default, this can have a severely negative impact on your credit. Remember to communicate any issues to your lender so that you can work out a new payment plan.