If you’re concerned about the impact student loans will have on your financial future, you’re far from alone. And while your primary focus may be on creating a plan to pay off those loans efficiently, it’s important to know that your student loans can influence other areas of your financial life as well, like your credit health.
Student loans are a type of installment loan. Like other loans, student loans appear on your credit report. As a result, they can play an important role in helping you build credit history and will impact your credit score in various ways.
Recently, there have been changes to federal student loan programs that could have an impact on your credit report and score if you have eligible loans. First, we’ll talk about how student loans can affect your credit score. We’ll then discuss these student loan announcements and the implications they can have for your credit health.
The most important thing you can do to maintain healthy credit is make sure you’re paying your bills on time — student loans are no exception. Even one missed payment can lower your credit score, and late payments can stay on your credit report for up to seven years. Staying on top of your student loan payback schedules is essential, especially since you may need to pay your loans to different servicers. You can use studentaid.gov to help keep track of your federal student loans’ statuses and servicer information. Payment history may be the most important factor, but there are other ways your student loans can affect your credit score.
When you apply for credit, the lender will pull your credit report to help make a lending decision. This is sometimes called a hard inquiry. A hard inquiry may lower your credit score. By how much depends on the credit model and your credit history.
Most federal student loans do not require a hard inquiry on your credit. Currently, Direct PLUS loans are the only federal student loan option that will do a hard inquiry. This type of loan is only available to graduate and professional students, and parents of undergraduate students. On the other hand, private student loans do require a hard credit inquiry and can impact your credit score. To minimize the impact of multiple hard inquiries, it’s smart to shop around for your student loan in a short time — ideally within two weeks.
The average age of your accounts is one factor in how your credit score is calculated. An average age of older credit accounts is better. After you receive a student loan, it will be reported by the lender to the credit reporting agencies and added to your credit report. This will help you build your credit history.
Since you’re likely to pay off student loans over a long period, they can help you begin establishing credit while also helping you maintain a higher average credit age until they’re paid off and the accounts are closed. Once a student loan account is paid and closed, you may see a drop in your credit score. However, this drop is typically temporary.
There were two major announcements about federal student loans in 2022 that borrowers should be aware of. In August the White House announced a plan for the U.S. Department of Education (ED) to provide up to $20,000 in debt relief to consumers with Pell Grants held by ED and up to $10,000 in relief for consumers with non-Pell Grant loans. Consumers with individual income of less than $125,000 or married couples with income of less than $250,000 are eligible.
This debt relief will be accompanied by a new income-driven repayment plan that lowers the cap on monthly payments for low-income borrowers and changes to the Public Service Loan Forgiveness program’s waiver rules.
As noted above, if the debt relief program causes one of your student loan accounts to close, there could be a short-term dip in your credit score. However, if your student loan balances are decreased and your accounts remain open and active, you may see a positive shift in your credit score. Score changes as a result of student loan debt cancellation either positively or negatively will likely be minimal.
Ultimately, removing debt from your personal balance sheet can benefit you financially and free you up for other financial opportunities. And even if your score does drop, with consistent good credit habits, your score will again rise over time.
Additionally, in April U.S. Department of Education (ED) announced the Fresh Start initiative, which has several benefits for eligible borrowers, including a change in how ED reports an eligible loan’s status to credit reporting agencies.
If you apply for Fresh Start benefits, eligible loans that were in default, meaning they were in collections, will be reported as “current.” If a defaulted loan’s status is changed from a collections status to current, it may have a positive impact on your credit score and how lenders view your credit health.
You can see more information about the Fresh Start benefits, eligible loans and updates to apply on the Federal Student Aid website. Fresh Start benefits are scheduled to end one year after the student loan repayment pause ends.
Both of these announcements can have a significant impact on the financial and credit health of consumers. It’s difficult to be precise in how your particular credit score will fluctuate with student loans because there are different scoring models, and they may weigh categories differently.
You have a lot to think about when pursuing your education, but be sure to make time to monitor your student loans and your credit reports. Just like more time spent in class can help raise your grades, more time working with and understanding your finances can help improve your credit health and understanding.
If you’d like help understanding your credit report, read our interactive credit report guide, which breaks down each section of your report and explains how the information may impact your credit score.