College graduates are not strangers to student loan debt. Many people, in fact, are suggesting student loan debt is the next “bubble” set to burst.
It’s relatively easy to qualify for a student loan, but when the time comes to begin making the loan payments life can become considerably harder for recent graduates. If you are one of the more than 37 million consumers currently in student loan debt then it’s absolutely critical for you to understand how these loans impact your credit and how failing to pay these loans can haunt you longer than you may realize.
Here are five things to know about student loans and how they affect your credit:
1. Late payments on student loan accounts are going to impact credit scores just like late payments on any other type of credit obligations.
Late payments are virtually guaranteed to cause a drop in credit scores. And while all late payments are bad, missing student loan payments can quickly snowball into a credit report nightmare.
Most consumers who use student loans to finance their education take out multiple loans during college, perhaps as many as one loan per semester. If a college student completes his undergraduate studies in four years he could easily have as many as eight student loans. These eight loans show up on his credit report as eight individual accounts, not one large loan.
Typically the borrower will make a single payment to the lender for his student loans and the lender will distribute the funds to the individual accounts. If a borrower becomes 30 days past due on his lump sum payment then, in the previous scenario, he would actually have late payments reported to not one but eight accounts on his credit reports. This will compound the damage to his credit scores.
Deferment can be defined as “the act of putting something off to a later time.” The deferment of a student loan (or loans) allows a borrower to postpone federal student loan payments temporarily without any negative consequences.
Additionally, depending upon the type of federal student loan being deferred it may be possible for the interest accrued during the deferment period to be waived (or rather the government may pay the interest for the borrower during an approved deferment period).
Another great benefit of deferring a student loan is the fact that doing so will not cause any negative impact upon a borrower’s credit reports, such as the reporting of late payments or past due balances.
Deferments are not issued automatically and, therefore, require an application to determine eligibility. If a borrower is going through a period of financial hardship then applying for a deferment is the perfect way to put off payments for a short time without harming credit scores. Deferments are also typically granted to borrowers when they are actively enrolled in college classes.
A forbearance is similar to a deferment in many ways. During a period of forbearance a borrower is granted permission by the lender to stop making loan payments or to make reduced payments for up to one year.
As with a deferment, if you qualify to receive a forbearance then it will protect you from negative credit reporting consequences like late payments and past due balances because the skipped payments are not actually considered to be “late” by the lender.
Borrowers who are not eligible to receive a deferment can still apply for forbearance if they are unable to make their student loan payments as scheduled.
The primary difference between forbearance and deferment is that interest continues to accrue on loans that are under a period of forbearance. The fact that interest continues to accrue results in the overall cost of the loan(s) being more than initially anticipated.
4. Defaulting on Student Loans
When a federal student loan becomes 270 days past due the student loan is classified as being “in default.” Defaulting on student loans can come with especially harsh side effects.
If a borrower defaults on a student loan then he is exposed to the very real possibility of having 15% of his future paychecks garnished to pay back the loan. Not only is garnishment financially painful, it is also typically an embarrassing situation as well since your employer will be made aware of the garnishment and dragged into your financial problems unwillingly.
Additionally, if you are in default on a federal student loan then it is also likely that your tax refund, if you’re due one, will be seized each year and applied toward your outstanding loan balance.
Unpaid student loans can even impact your children. If you still have unpaid, defaulted federal student loan debt when your child applies for a student loan then your unpaid debt might prevent your child from qualifying for a loan.
Defaulting on private student loans is no better and can put borrowers in a similarly bad situation with consequences such as increased interest rates and a demand to repay the loan early or immediately.
5. Fixing credit report damage from Student Loans
If past due student loans are harming your credit scores then it is time to start thinking about damage control.
If you have student loans that are past due it’s important to bring the balances current. If you cannot afford to bring the accounts current that doesn’t mean you should simply ignore the debt. Consolidating student loans could help to bring them current or you might be eligible to enter into a loan rehabilitation program.
Most negative debts have a time cap and can only remain on credit reports for a set period of time. Generally a negative debt has to be removed from a credit report no later than seven years after the late payment or default.
However, the “seven-year clock” does not apply to unpaid federal student loans and these accounts can legally remain on a consumer’s credit report indefinitely. Of course, if there is an error on a student loan account then the consumer can dispute it with the credit bureaus. However, if the loan is verified as accurately reported then it will still remain on the consumer’s reports.
Federally guaranteed student loans also cannot be discharged in a bankruptcy except for under very rare hardship scenarios. The loans are not considered to be statutorily dischargeable, which means in most cases you’re going to pay them back or you’re going to die in debt.