How Biden’s student loan forgiveness could affect your credit score

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Just a few weeks ago, President Joe Biden announced that his decision on a sweeping federal student loan forgiveness was imminent.

If you’re one of the millions of borrowers waiting to see their college debt forgiveness, it’s a good time to think about the impact a full-scale loan cancellation would have on both your credit score and your finances overall.

Below, Select spoke to Travis Hornsby, founder of Student Loan Planner, to learn more about what borrowers can expect from federal student loans.

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Your credit score may drop slightly, but don’t worry

If you ever If you pulled your credit report, you’ve probably seen that your student loans are listed there as an installment loan of some sort. This is a good thing as it shows that your student debt is actually contributing to your credit mix. Lenders like to see a variety of loans — both revolving and installment loans — because it shows that a borrower can manage the various obligations that come with borrowing all types of money.

This is why paying off an installment loan like student debt can actually hurt your credit score as it lowers your overall loan mix. However, Hornsby says not to worry. The decline in your credit rating is temporary and will likely improve again within a few months.

“Overall, the loan waiver is a fantastic thing,” Hornsby told Select. “Focus on getting the forgiveness and any kind of impact on your credit score will be insignificant.”

The only exception that Hornsby points out is if the student loan forgiveness occurs around the same time you make a large purchase, e.g. B. a house or a car. If you’re planning to borrow money to finance a new home or vehicle, consider pre-approval so your credit history is as good as possible when you apply.

The bottom line here is that if student loan forgiveness actually happens, your credit score is likely to be affected, but only briefly and insignificantly — like a 5 to 10 point drop.

Hornsby adds that what he sees most often is people focusing on credit scores to their detriment, but when it comes to loan forgiveness, don’t worry about temporary changes in your credit score.

There is a way to boost your credit score instantly

If you’re often concerned about your credit score, check out *Experian Boost™, a free feature that boosts your timely phone, Internet, cable, utility (gas, electricity, water) and streaming payments add to your Experian credit report. According to Experian’s website, average users who received a boost reported a 13-point increase in their FICO® score.

How student loan forgiveness could affect your finances

For example, if $10,000 in student loans were wiped out of your debt balance, it would certainly have a positive impact on your finances. That’s $10,000 you’re off the hook and wouldn’t have to pay anymore.

However, according to Hornsby, there are other positive — and negative — financial outcomes when it comes to forgiving all or some of your student loans. Here are a few things to consider.

Your debt-to-income ratio will go down

A large debt burden such as B. Thousands of dollars in student loans increases what you call Debt to Income Ratio or DTI. A high DTI can make it harder to borrow money in the future because it indicates that the amount you owe exceeds the amount you earn. However, having student loans forgiven lowers your DTI and narrows the gap between your outstanding debt and your income.

You may receive a refund

Federal student loan borrowers who have continued to make payments during the pandemic-induced payment and interest freeze — which is currently in effect through August 31, 2022 — may be eligible for a refund once the loans are taken, says Hornsby.

You could owe more taxes

You may have to pay taxes on the waived student debt. However, that depends on the type of student loan forgiveness you receive, Hornsby says. For example, the income-related refund (IDR) waiver is currently tax-free until the end of 2025.

Any negative payment history may remain on your credit report

Whether student loan forgiveness erases all of your remaining student debt or just a portion of it, your payment history from those student loans will likely remain on your credit report. That’s good news if you’ve had a history of making solid monthly student loan payments, but not so good news if you haven’t been consistent.

However, Hornsby adds that it is possible that negative grades and late payments will be removed from your report after a loan forgiveness, but this is not certain. Late payments typically show up on your credit report and stay there for seven years.

This is important to note as payment history is the single most important factor in creditworthiness, accounting for 35% of the credit score calculation. A good payment history can seriously help keep your credit score high, while a bad payment history can seriously damage it.

bottom line

While we still don’t know what President Biden’s sweeping student-loan forgiveness will look like (or not), rest assured that overall, any forgiveness is a good thing. Even if debt relief could knock your credit score down by about five points, it wouldn’t last long, and we think the positive financial impact of forgiveness outweighs any negative outcomes.

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*Results may vary. Some may not see improved results or approval ratings. Not all lenders use Experian credit files and not all lenders use Experian Boost influenced scores.

Editorial note: Any opinion, analysis, review, or recommendation expressed in this article is solely that of Select’s editors and has not been reviewed, approved, or otherwise endorsed by any third party.

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