Credit cards and student loans are two major debt lines plaguing American households today. It’s said that the average American family carries $16,061 in credit card debt and a whopping $49,042 in student loan debt.
The latter statistic is worth looking into further.
How Your Student Loan Impacts Your Credit
Your student loan is as real as any credit card or loan on your credit file. It’s not anymore “forgiving” than any other type of installment debt. This means every delinquency will hurt your credit score.
The worst case scenario comes from defaulting on your student loan debts. This is something you absolutely want to avoid. It can send even the strongest credit scores down 100s of points. The road to recovery will be long, and the damage will stay on your credit report for seven years.
You can usually negotiate with your student loan provider. If you’re in financial distress, try to work out a payment plan for the near future. Even avoiding a delinquency entry on your file can save you an 80-point drop after your first 30 days of being delinquent.
Your student loan reports both good and bad. However, it’s the bad that does the most to your credit rating, while good efforts have little reward. You need to avoid the penalties to your FICO score to have a chance to repair your credit effectively.
How Credit Cards Differ from Student Loans
Credit cards are a type of “revolving” debt, which means there’s an open credit line at all times. You will be able to borrow up to your max amount so long as the minimum monthly interest payments are paid.
It’s imperative to stay up to date on your credit card debts. Defaulting will cause extensive damage to your credit. You can typically pay a very small payment to keep your card alive. Meanwhile, the minimum payment for your student loan might be a bit more difficult to sustain.
Your credit score’s second-biggest factor is your utilization rate. This is the amount of debt you carry versus the amount you’re able to borrow. The higher it is the worse it says about you as a borrower. You want to keep it low (below 30 percent) for as long as possible; your payment history is another calculation variable and it considers your previous utilization levels.
Pay Credit Cards or Student Loan First?
It’s quite the dilemma. Paying your student loan helps with offing a major outstanding debt. However, paying off your student loan will not impact your credit utilization rate for the better in any way.
If you have a substantial amount of credit card debt, it makes sense to tackle that first. Each $1,000 you knock down will have a bigger impact on our credit rating, but keep in mind if your student loan runs into default it will be all for nothing.
Your payment history still remains the number-one factor in your FICO score calculation. Thus, it’s a good idea to see how you can improve it. This would mean maintaining payments on your student loan while reducing other debts.
You want to use any extra cash to tackle your overall credit card debt. The goal is to bring your utilization rates down as much as you can. This can be done from accepting credit limit increases too – so long as you avoid using the newly available funds.
Using Tax Refunds to Pay Off Student Loans
You will not want to make the mistake of using your tax refund as a way to pay off your student loan. Everyone thinks it is hard to take care of, so using your taxes is a sensible way to get the debt under control.
The truth is, your student loan will not hurt your score if the debt remains on your balance sheet. Trouble only arises when you run delinquent or if you default the loan. This means you can leave this particular installment loan for last while focusing on paying off higher-interest debts.
You are endangering your creditworthiness by putting your tax refund to use to pay off your student loan. The large lump sum can go toward your credit cards and have a much greater impact. Remember, credit cards accrue interest month after month as you fail to pay them off; it won’t take long for your debts to pile up if these are left unchecked.
At the end of the day, the worst type of debt to carry is the one you fail to pay off. It’s important to prove you are a good, trustworthy borrow in every sense of the term. Therefore, you must maintain positive status with your accounts (including your student loan) even if you only pay the minimum.
If you ever feel unable to pay your student loan payments, consider one of the three payment plans they offer. You can arrange to pay as you earn, based on your income or contingent on a certain amount of generated income.
If you fail to come to a deal then missing your payment will result in a late payment entry on your credit report. The damage will be irreversible; now that you know what’s at stake, make sure you sort your debt repayments accordingly.