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Did you know that the average graduate has more than $35,000 in student loans? For
many students, it’s hard to get out of college without having accumulated some sort of
student loan debt. Think of all the things you could do with that money! Paying your
student loans off each month will not only affect how much of your paycheck you’ll have
left over each month, but it will also affect your credit. Learning more about managing
your students loans will help you build a strong credit report and give you a better hold
on your finances.
Let’s talk about the pros of student loans when it comes to your credit.
I can’t emphasize enough on the importance of paying your bills on time, as payment history accounts for 35% of your credit score. The more you pay your bills on time, the better it’ll be, as over time this positive information can help increase your score. This is also important for future lenders to see, because it helps to determine how likely you are to pay back loans.
Student loans are also considered good debt in your score calculation. Installment loans that are likely to add value to your finances and net worth are considered good debts. In this case, a student loan tells lenders that you have a better chance of being employed and potential for income growth. Bad debt is considered to be revolving credit such as credit card balances. This is because purchases made with credit cards lose value over time. This also applies to car loans because vehicles depreciate so quickly.
What about the cons of student loans on your credit?
Your score could drop drastically if you were to stop making payments toward your student loan. Because life is so unexpected, always keep some money stashed away in a savings account for rainy days, such as a sudden job loss or other unforeseen circumstances.
Even though student loans are considered good debt, they are still included in your debt-to-income ratio. Keep this in mind when applying for a mortgage or personal loan. You won’t get approved for a loan if you owe too much money compared to your gross income. Carrying too much debt will negatively affect your credit score and cause it to drop, even if it’s “good debt”.
Should you defer your student loans?
If you have a federal student loan, you may be able to defer your payments. Certain situations, such as losing your job, economic hardship, or being enrolled in a graduate program could qualify you for deferment. It’s important to keep in mind which type of federal student loan you have as well. Certain loans don't accrue interest during the deferment period. If you do end up accruing interest, ultimately you’ll be increasing your debt.
When it comes to applying for a loan or mortgage, lenders will determine your financial situation. They will either deny your loan if your student loan is deferred and unsubsidized, or they will remove the student loan payment from your debt-to-income ratio since you are technically not required to make payments during the deferment.
Should you default on your student loans?
If deferring your student loans is an option, it will be a much better choice than letting your account become delinquent or defaulting. If your account defaults, it will be sent to a collection agency. This could seriously damage your credit score. There are some states that even suspend your driver’s license or professional license if your student loan defaults. It definitely won’t help you pay back your debt if you can no longer work in your profession.
You don’t have to shy away from student loans as long as you understand the pros and cons! Again, having student loans can help diversify your credit portfolio as long as you are making payments on time and can manage the account. Check out this video from Keeping it Real with Credit on how student loans affect your credit.
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