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Like other types of loans, a student loan can help you build your credit. For students who have never had a loan or credit card before, it may even be the first account that establishes their credit report and makes them eligible for a credit score. Here's how student loans can affect your credit.
Student Loans Can Benefit Your Credit
A student loan is a type of installment loan—a loan that you'll repay with regular (often monthly) payments over a predetermined period.
Student loans can help you build credit by adding new accounts to your credit reports and, over time, increasing the length of your credit history. Additionally, if you don't already have an installment loan (such as an auto loan or personal loan) in your credit history, the student loan will add to your credit mix, which also helps your credit.
However, as with other loans, part of the impact can depend on whether you make your payments on time or fall behind on your bill. On-time payments can help improve your credit, while late payments will hurt it.
Paying Off Student Loans Can Have a Lasting Positive Effect
When you first pay off a student loan, your score might drop slightly. This can happen if your student loan was your only installment account, or if your remaining installment accounts have high balances relative to their original loan amounts. Generally, you don't have to worry about the small drop, as your scores will recover and may even improve in the months to come.
Assuming you made your payments on time and paid off your loan by the due dates, your student loan can remain on your credit reports for 10 years after you pay it off. That's a good thing. While it's on your credit reports, the account's history can continue to positively impact the length of your credit history, your credit mix and your payment history—which all contribute to better credit.
Factors That Affect Credit Scores
Many factors play a role in determining your credit scores, and student loans can affect these in different ways. The primary scoring factors are often grouped into five categories:
- Payment history: A long history of on-time payments can help your credit scores, while a late payment can hurt your scores. The impact of late payments decreases over time.
- Amount owed vs. loan balance: The amount you owe on your student loans relative to the original balance can also affect your scores. As you pay down your student loans, the lower balance can help your scores.
- Length of credit history: A longer credit history, and a longer average age of accounts, could help your scores. Your student loan's account history can start when your loan is disbursed, even if you didn't start making payments until after you graduated.
- Credit mix: Having experience managing multiple types of debt can help your scores. Student loans are a type of installment loan, which has a fixed repayment period. Credit cards and lines of credit are part of the other type, revolving accounts, which have an indefinite repayment period.
- Hard inquiries: If you apply for private student loans, the resulting hard inquiries (when a lender asks to see your credit report) may hurt your credit scores. However, there's generally only a minor impact and your scores may rebound within a few months.
Student Loans Could Also Negatively Impact Credit
Although you'll have more debt, taking out student loans usually won't have an immediately large positive or negative impact on your credit scores. However, during repayment, missing just one payment could hurt your scores.
The impact of late payments may also be amplified because many borrowers take out more than one student loan to pay for school. During repayment, they make one monthly payment to their student loan service, which then distributes the money to repay the individual loans. As a result, missing one payment to your servicer could lead to multiple late payments getting added to your credit reports.
If you miss multiple payments in a row and are 270 days late on federal student loans, your loans will go into default. Private student loans can default sooner. The default will get reported to the credit bureaus, which will further hurt your scores and can lead to additional consequences. You may have to pay extra fees, and the government can take funds directly from your paycheck or tax return to repay your past-due amount. Fortunately, there are ways to get your federal loans out of default, and even have the default removed from your credit history.
Also, although it's not part of your credit scores, the debt from your student loans could increase your debt-to-income (DTI) ratio. Creditors may consider this when you apply for a new loan, and having a higher DTI can make it more difficult to get approved with the best rates and terms.
Other Ways to Build Credit as a Student
Students, including those who haven't taken out student loans, can also look for additional ways to build credit. Here are a few popular ideas:
- Become an authorized user. When someone adds you as an authorized user to one of their credit cards, the card account's history may be reported to the credit bureaus under your name as well. If the person has a history of on-time payments, this additional history could help bolster your credit. However, if the person misses a payment or uses a large portion of the available credit limit on their account, these negative factors could also impact your credit.
- Open a student credit card. Some credit card issuers offer student credit cards, which tend to have easier qualification requirements than non-student cards. However, they're usually only available to students and may have a low credit limit. Using the card for a small purchase and then paying the bill in full each month can be an effective way to build positive credit history while avoiding interest.
- Open a secured credit card. A secured credit card can also help you build your credit, or rebuild your credit if you've had credit troubles in the past. Secured credit cards don't require you to be a student, but you'll have to give the issuer a refundable security deposit which generally determines your account's credit limit. Depending on the card, you may get the security deposit back after responsibly using your card for several months, or when you close the account (assuming it doesn't have a remaining balance). As with other credit cards, try to use only a small portion of your credit line and pay your entire bill every month.
Managing Student Loan Payments
One of the most direct ways a student loan could wind up hurting your credit is if you miss a payment. However, when money is tight, your rent, groceries, utilities and other bills may take priority.
Fortunately, there are federal student loan repayment plans and programs that may be able to lower or temporarily pause your monthly payments. In some cases, your monthly payment may drop to $0 a month, which will still count as an on-time payment in your credit history. Some private student lenders may offer similar forms of assistance.
When you can make your student loan payments without worry, keep at it or even consider refinancing to save money on interest. But if you're having trouble, research your options on StudentAid.gov and by contacting your loan servicer.
If you can make all your student loan payments on time and pay it off on schedule, it could go a long way to help your credit—and your financial future.