Ask an Expert: Navigating Student Loan Debt
Dear Kirk: How does student loan debt affect my ability to get other financing (car loans, a mortgage, etc.)?
Kirk Says: The reality is that student loan debt contributes to your credit score (both positively or negatively) in the same way that other forms of credit like auto loans, home mortgages and revolving credit lines (credit cards). But here’s the good news when it comes to student loan debt.
1. Student loans are a good way to establish credit. As a student, it is often difficult to get approved for a credit card or a car loan, especially if you have no income because you haven’t landed that first real job yet. You do not have to have credit to get a federal student loan. So you get the loan and make your payments on time, and this causes your credit score to go up. This gives the banks a reason to lend you more money because of your proven track record of paying your obligations on time.
2. Student loans get reported as installment loans. What this means to you is that these types of loans are weighted differently in the credit score calculation versus other debt like credit card debt. Credit card debt is treated as “revolving debt,” because you have the ability to charge up to a certain limit, pay on this amount, and then recharge back up to that limit. This type of debt is watched more closely than installment debt. The credit bureaus are looking to see your pattern of discipline with these credit lines. Keeping your balances low on this type of debt will improve your credit score.
3. Student loan deferment does not hurt your credit score. As a matter of fact, some banks look favorably on the flexibility that deferment or forbearance provides for the consumer when they may be trying to secure other credit such as a car loan. In that way, it may actually work to increase your credit score.
With all of that said about student loan debt, let’s look deeper at some simple ways to improve your overall credit score.
1. Pay your obligations on time, every time! I know this sound elementary—like one of those things we should have learned in kindergarten—but simply be sure to pay all of your bills on time. This applies to your water bill, mortgage, rent, car loan, insurance, credit card bill, student loan, cell phone and medical bills. In this case, all of your bills means all of your bills, and on time means on time. Do I really need to explain this further? If you make this your standard practice, the one time occasion that slips through the cracks because you forgot to make the payment will be a non-event on your credit score.
2. Don’t shop for credit frequently. Here is how this one works. You see the latest car that you absolutely have to have. You walk onto the car lot, and three hours later, the car salesperson has given you a price that works in your monthly budget. What you may not know is that your credit report has been hit to see if you can afford to drive off the lot with that jewel. I’m not saying stop car shopping, but I am saying for you to think about the consequences when you go. If you do this several times each year, it will cost you on your credit score. Same goes for every time you sign up for the latest credit card at your favorite retail shop to save that 10% on today’s purchase.
3. Keep your balances low on revolving credit. We touched on this one in the student loan section. The main thing to know more here is that if you keep your revolving balances at 10 percent – 35 percent of the available credit limit, then your score will be higher. For example, that would be the equivalent of carrying a $500 – $1750 balance on a credit card with a limit of $5000.
Kirk Gwaltney is a Chartered Financial Consultant and a Chartered Life Underwriter in Brentwood, Tenn. Learn more about him at kirkgwaltney.com.