(NewInsights.org) – If this is a question you’ve never researched before, you might assume paying off your student loan would boost your credit score. It would make sense if this were the case. However, as we will explain here, multiple factors contribute to your credit score. While it might be the right financial decision to pay off your student loan, it most likely will not improve your credit score.
What Will Happen to My Credit Score After I Pay Off My Student Loan?
Surprisingly, many people experience a dip in their credit score after their last student loan payment – but this is only temporary! As long as you don’t have any negative issues in the meantime, your score should bounce back within a few months. In addition, the payment history you earned while paying down your debt will have a positive impact on your credit for 10 years.
Why Would My Credit Score Go Down?
A complex formula, dependent on several factors, contributes to your FICO score. One of these many factors is called the “credit mix.” There are two types of credit accounts that make up this mix:
- Revolving Accounts – These are accounts with a credit limit and a flexible payment amount that may change from month to month. Examples would include credit cards, retail store cards, gas cards and Home Equity loans.
- Installment Accounts – These accounts require fixed monthly payments to pay off the account balance. Home loans, auto loans and student loans are the most common installment accounts.
If you have an open student loan and a credit card, for example, then you have both types of credit accounts. However, if you pay off your student loan, and it’s your only installment account, then the loss of the loan, even through pay-off, might hurt your credit mix and, therefore, your credit score.
Is There An Advantage to Waiting to Pay Off a Student Loan?
Each person has to answer this question based on their own situation. There may be benefits to whatever you choose. Keeping your account open will avoid the temporary “dip” in your credit score. If you are in the market for a new car or home loan, you might want to keep your credit score higher. Additionally, you might also consider investing the money you would otherwise use to pay down your student loan early.
What’s the Benefit of Paying Off a Student Loan?
While it may not be an immediate boost to your credit score, freeing yourself from your student loan debt may help you reach your other financial goals. First, it will improve your debt-to-income ratio, allowing you to qualify for larger loans, like those for a home. Second, without a student loan payment, you‘ll have more money to pay off any high-interest credit cards. Alternatively, you can start saving toward a down payment for a home. Less debt provides more options.
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