Student loans can affect credit scores in a number of ways.
Student loans can, indeed, affect FICO credit scores---both positively and negatively---in a number of ways. Student loans are considered a good type of debt, but failure to make payments can have a major negative impact on an individual's FICO score. For responsible borrowers, though, student loans should not negatively affect credit scores---in fact, they may help boost them.
Good Debt
Many people think that all debt has a negative impact on FICO scores, but in reality, some debt can actually improve scores. While credit card debt---especially lots of it---can make FICO scores plummet, good debt, such as mortgages and student loans, can help boost credit scores if the borrower makes his payments on time. Responsibly managing debt by making all payments in full and on time shows lenders that a borrower is trustworthy and, therefore, a good credit risk.
Shopping for a Loan
When a consumer shops around for any kind of loan, his credit score often takes a minor and temporary dip. Shopping for a student loan is no exception, though there are ways to minimize the effect on FICO scores. Typically, credit bureaus recognize that customers rack up many credit inquiries while they are shopping for loans, so it is best to do all student loan shopping within a 30-day period. Searching for student loans over an extended period of time may signal to credit bureaus that the consumer needs more than one loan, and his credit score may take more than one dip. In general, a small, local dip in a credit score has a negligible impact on a person's long-term credit score.
Deferring Payments
Most lenders allow students to defer payments on their student loans for a period of time if they cannot find steady employment upon graduation. While deferment may help students with their cash flow in the short run, it can negatively affect FICO scores in the long run. The longer a person holds debt, the more negatively it affects his credit score. Thus, if a student delays starting payments, the debt will likely stay on his credit report longer, unless he makes accelerated payments once he does begin to pay off the loan. Lenders will also be able to see that a person requested a deferment, which may cause them to be wary about providing such a person with a loan.
Defaulting on the Loan
Defaulting on a student loan can have the most negative and lasting effect on a FICO score. Failing to make timely payments or failing to pay off the entirety of the student loan can cause a person's credit score to nose-dive. Lenders can seek legal garnishment of your wages in order to collect their money. Severe actions, such as garnishing wages or declaring bankruptcy, can tarnish a credit report for seven to 10 years. It is very important not to enter into a student loan contract without understanding the ramifications of failing to pay.
Paying Early
On the flip side, paying off a student loan early can improve FICO scores. Besides saving money by making fewer interest payments, paying off a student loan early can signal to creditors that a person is very responsible with his finances. Additionally, paying off a loan early will reduce the total amount of debt in the borrower's name and will reduce the length of time the debt is on his credit report---both factors that improve one's credit score.
Tags: credit score, student loan, FICO scores, loan early, affect credit