College graduation celebrates past accomplishments and upcoming adventures. It’s also the point when paying off student loans becomes a tangible financial obligation rather than a future burden. Once you start paying, you’ll feel the effect on your budget immediately. But what may not be apparent is how this debt affects your credit score, which will have long-term effects on almost all areas of your life.
Establishing Good Credit
When it comes to your credit rating, student loans can be a positive influence. They can be an important building block to establish or burnish your profile as a good financial risk, which in turn helps you obtain credit cards and borrow in other ways. The resulting diversity in your record is an important factor that ultimately boosts your credit score, provided you pay bills on time.
Student loans are considered “good debt” since they represent an investment in your future. How you handle them may be key to getting other financing such as a mortgage or auto loan, which would further build your profile. Dealing with these college-related obligations can boost your credit score, a measure of financial risk used by lenders, compared with peers who didn’t borrow to pay for school.
What if I Can't Make My Payments?
Getting that first job after graduation can be tough, and if you aren’t earning enough, it may be impossible to cover your payments. If this happens to you, don’t panic – you have options to protect your rating.
No matter how overwhelmed you may be, the worst course is doing nothing. Missing a payment by a few days or weeks might not be too damaging, but after 60 days, most lenders will report the loan involved as delinquent to the companies that maintain credit records, and your risk profile will worsen. Letting your loan slip into default will mar your rating and the stain will stay there for seven years.
Deferment and Forbearance
One way to maintain good standing even if you can’t make the payments is to seek a deferment or a forbearance agreement, which puts that obligation on hold. These options won’t harm your credit score and banks might even be more willing to lend you money after you’ve taken such steps.
You may be eligible for a deferment on a federal student loan if you’re unemployed, are enrolled in school at least half-time, are on active military duty during certain periods, or you’re in the Peace Corps. You don’t have to make payments during a deferment, but if you don’t pay the interest it may be added to the principal balance and you may end up paying more. Bear in mind that you’ll need to reach out to the organization handling your loan to request a deferment.
If you don’t qualify for deferment, you may still be able to arrange forbearance with your loan servicer. During the forbearance period of up to 12 months, you won’t have to pay any principal, but you’ll still have to make monthly interest payments.
Forgiveness and Cancellation
If you’ve made 120 consecutive on-time payments on direct federal student loans while working full-time in government or tax-exempt not-for-profit organizations, you may be able to erase the remaining debt. Designed to promote such careers, the Public Service Loan Forgiveness Program (PSLF) can be used to cancel or discharge qualifying school debts. These actions won’t negatively affect your credit score.
Repairing the Damage
Even those who’ve defaulted, usually by not paying for nine months or more, still have some options to repair the damage. Once regular payments begin, the default remains on your credit report for at least seven years. Once you get the account current, your rating will start to improve, sometimes within weeks.
Once you’ve made an agreed-upon number of on-time payments to the U.S. Education Department and the loan has been sold to a lender, it can be rehabilitated and the default status can be removed.
If you find yourself in trouble with student loan payments, be sure to contact your lender or loan servicer right away to make arrangements that will preserve your good credit.
Roberta Pescow writes about personal finance, insurance and banking for NerdWallet. She previously was a home and garden writer for IdealHomeGarden.com and has articles syndicated on over 200 websites nationwide.
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