Student Loans and Credit: 9 Things You Must Know!

October 25th, 2010

What’s the relationship between student loans and credit scores? You might be surprised! In this article, we take a look at the nine things you should know about student loans so that you can build a great credit score.

Nine Things You Should Know About Student Loans and Credit

First a little background. Student loans are unsecured loans (without any collateral backing them) issued to help with the costs of tuition, books, board, and other school-related expenses. As with any other loan, your credit score is deeply impacted by your student loan. When you make your student loan payments on time, your credit score will improve. If your payments are late or if you skip a payment, your score will drop.

Student loans are a great way for young adults to begin the all-important task of showing lenders that they can handle debt. If lenders see that you can make payments on time and in full, your credit score will go up and you will be more likely to get larger loans in the future.

This is important because you will need credit upon graduating from college. Your first employer might run a credit check, assuming that your credit score is a good indication of whether you are responsible or not. And a landlord will definitely run your credit before renting a home to you.

With all this in mind, here are nine things you should know about student loans and credit.

Student Loans and Credit, Fact #1:

When you apply for a student loan, your credit might or might not be pulled. Some lenders do require a credit score, but others do not. If your credit score is pulled, a credit inquiry will be added to your credit report. This might cause your score to drop, but the impact will be minimal.

Student Loans and Credit, Fact #2:

About 30 percent of your credit score is determined by your outstanding debt: the ratio of how much you owe versus how much you have paid. The more you have paid and the less you owe, the better your score. If your payments are being deferred until you have graduated, or if you have deferred payments for another reason, the ratio will not be in your favor, and your score might drop. However, it will start to increase after about six months of timely payments.

Student Loans and Credit, Fact #3:

With this in mind, consider that students who are positioned to pay back their loans before graduating will enjoy a faster ride to good credit. Even though a lot of student loans do not require repayment until you have graduated, your credit score might be higher if you start repaying the loans immediately. Keep in mind that some employers will run a credit check when you apply for your first post-college job, so having a high credit score could behoove you.

Some people have speculated that if borrowers pay back their student loans too fast, they will lose credit points (presumably because the maximum interest on the loan will not be accrued if the loan is paid off early). I think this is a bogus claim. The exact details of credit-scoring formula have not been released, so I cannot definitely confirm this theory one way or another, but I seriously doubt its accuracy. Credit-scoring bureaus are not interested with your creditor’s ability to earn the most interest, but rather with your ability to repay your loan on time. The bureaus want to know that you will pay your debts on time. Paying your student loans sooner rather than later is a wise thing to do because your debt-to-principal ratio will drop and your score should increase.

Student Loans and Credit, Fact #4:

Before you leave college, avail yourself of the opportunity to receive exit counseling, a service most schools offer to prepare their students to repay federal student loans. This counseling can provide you valuable information about your rights and responsibilities and the terms and conditions of your loans.

Student Loans and Credit, Fact #5:

Once you begin repaying your loan, never miss a payment. Here’s something you might not know about student loans and credit: 35 percent of your total credit score will be drawn from your payment history on credit cards and loans.

Student Loans and Credit, Fact #6:

If you cannot make a payment, ask for forbearance, a short-term agreement that allows you to make smaller payments, or no payments at all. Otherwise, you will harm your credit score. Keep in mind that if you do not make payments, interest will continue to accrue and the amount due will grow larger.

Student Loans and Credit, Fact #7:

Keep in touch with your lender. If you are struggling with your payments, never wait until the lender approaches you or until a delinquency notice is logged on your record. Instead, initiate communication with your lender. Talk about forbearance or student loan consolidation.

Student Loans and Credit, Fact #8:

Student loans can never be discharged during bankruptcy.

Student Loans and Credit, Fact #9:

Making regular payments on your student loans is a great way for young adults to begin building their credit score, setting the foundation for better loan terms and lower interest rates on future loans, and saving bundles over the course of a lifetime. But this isn’t enough. As you move on after school, you should try to incorporate different types of credit into your finances while keeping current on your payments. The mix of credit you have makes up 10 percent of your score. The credit scoring bureaus want to see that you can handle a variety of types of loans—from credit cards to student loans to car loans.

Now that you know the nine important facts about student loans and credit, be sure you learn the 38 facts the banks don’t want you to know! These money-saving tips and insider secrets about credit scores can help you save a bundle and position yourself for success.

Tags: credit score, loans, student loans

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How Is a Credit Score Calculated?

October 21st, 2010

How is a credit score calculated? This is a question I’m asked often, and the answer is not a simple one. In fact, there are a lot of people who sell something they call a “credit score,” but they are actually selling garbage. This blog clarifies the players, how they work together, and what you can do to make sure that you get your hands on your true credit score.

How Is a Credit Score Calculated? The Players

Let’s start with the three main players:

1. Your creditors,

2. The credit-reporting bureaus, and

3. The credit-scoring formula.

Your creditors are those banks, lending institutions, people, and entities that report to the three credit-reporting bureaus. They consist of:

Banks and lending institutions that have granted you with a loan or a credit card, or that have considered a loan or credit card application.
People, entities, or companies that are pursuing you for unpaid debt. If you fail to pay a bill or debt, a creditor will attempt to collect this debt. For instance, you might have a tax lien or a judgment against you. In either case, a creditor will attempt to collect the unpaid money. If you fail to pay a bill, it will be turned over to a collection agency, which will attempt to collect the debt.

It is important to note that the following companies do not report information to the credit-reporting bureaus, unless you fail to pay them bills, in which case they will be turned over for collection and reported to the credit-reporting bureaus:

Utility companies
Cell phone companies
Landlords

Alimony and child support payments are also not reported to the bureaus, unless you fail to pay.

Now let’s talk about the three credit-reporting bureaus: Equifax, TransUnion, and Experian. Your creditors report information to one, two, or all of the credit-reporting bureaus. For instance, your Visa credit card company might report your payment history to Experian and Equifax. A bank that provided you with a small line of credit might report only to TransUnion, whereas your mortgage lender would most likely report to all three.

The credit-reporting bureaus do two primary things:

1. They collect information from your creditors.

2. They report your credit score by applying a credit-scoring formula.

So that brings us to the credit-scoring formula. Your credit score is computed using an intricate formula that considers a variety of factors. (Read “What Makes Up a Credit Score?”)

Here is where it gets confusing. The credit-reporting bureaus apply a different credit-scoring formula depending on who is asking for your credit score.

Let’s say that you apply for a rental unit. The landlord is concerned primarily with your history of mortgage payments, as well as any evictions you might have on your record. Now let’s imagine that you also apply for a car loan. The bank considering your car loan is concerned with your history of installment payments and whether you have any repossessions on your record.

Equifax, Experian, and TransUnion know that the landlord and the car company are interested in different things, so they apply a different credit-scoring formula depending on who is asking for your credit score.

Important to note is this: 90 percent of all lenders use a credit-scoring formula called a FICO Score. None of them use something called the Consumer Score. We will discuss this in detail later. Just remember this: Of all the credit scores you can buy, the FICO score is the most important. A consumer score is the least important.

Before we get into that, let’s talk about how the players work together.

How Is a Credit Score Calculated? How the Players Work Together to Determine Your Credit Score

In summary, your creditors report to one, two, or all three of the credit-reporting bureaus. When a person or lender inquires into your credit score, the credit-reporting bureaus determine which credit-scoring formula is most appropriate. They apply the formula, and then report your credit score.

Because not all creditors report to all of the credit-reporting bureaus, the three bureaus do not have identical information. Therefore, if a bank pulls your credit score from the three credit-reporting bureaus, the bank might end up with three different credit scores. Experian might give you a 650 score, TransUnion might determine that your score is 672, and Equifax might determine that your score is 714.

The banker would ignore the high score and the low score, and just take a look at the score that falls in the middle. In this case, the bank would consider the score provided by TransUnion (672) to be your credit score.

How Is a Credit Score Calculated? Getting Your Hands on the Right Score

Remember a few paragraphs ago, when I told you to remember that the FICO score is the most important score, and that the Consumer Score is worthless? Let’s talk about this now.

As I’ve mentioned, the credit-reporting bureaus have a lot of different formulae they can apply to determine your score. They chose the formula based on who is asking for your credit score.

If you pull your own credit report and buy your credit score, most often, the Consumer Score will be applied. This is a generic credit score that no lender, landlord, or employer will ever use. Only the consumer sees a Consumer Score.

In this way, the Consumer Score is worthless. And unfortunately, it is often a lot higher than a FICO score. This means that if you buy your credit score from most places online, you will receive a Consumer Score that gives you an artificial sense of security about your credit score.

Almost all lenders use a FICO score. If you buy your credit score, make sure it is a FICO score so you have an accurate idea of where you stand. A consumer can buy FICO scores from both Equifax and TransUnion at www.720FICOScore.

However, Experian does not sell FICO scores to consumers. If you want to see all three scores, a lender will have to pull your credit score. The benefit of this is that you have all three scores. You can ignore the high score and the low score, knowing that the middle score is the credit score a lender would use to determine your interest rates.

The downside of getting your credit score from a lender is that a hard credit inquiry will be added to your credit report. Click here to learn about how credit inquiries affect your credit score.

How Is a Credit Score Calculated? The Difference Between Credit Scores and Credit Reports

In considering the question, “How is a credit score calculated?” I have spent a lot of time talking about credit scores. I want to make an important note: There’s a difference between a credit score and a credit report. A credit score is the three-digit number that predicts your likelihood of paying your bills on time. A credit report is a listing of all the information that was considered in your credit score.

Once a year, you can get a free annual credit report. If you want to look at your credit report so that you can identify errors, go ahead and download your free annual credit report. However, you should never, never buy a credit score from www.annualcreditreport.com as this site sells consumer scores only. Remember that the only place to get a FICO score is from FICO itself or from your lender.

This concludes my lesson in “How is a credit score calculated?” I know this is a complicated subject, so if you have any questions, be sure to leave them in the comments!

Tags: credit score

Your Bank’s Big Lie About How Credit Scores Affect You

October 17th, 2010

I recently conducted a private class for the parishioners of a church about how credit scores affect you. After the class ended, one of the participants, Lori P., sent an email that shows how banks lie to their customers.

‘I am involved in an entrepreneurial program that helps people become business and home-loan ready, as well as get them ready for business start-up. Four of us in the program had attended a meeting with a founder of a minority bank here in Los Angeles that explained to us how to become loan-ready for his bank. He mentioned that all we needed was a 630 credit score along with other criteria.

‘I thought, “Wow, only 630? That seems easy.”

‘Then when I listened to your program, it made sense why we only needed a 630: It would be money in the bank’s pocket.

-Lori P.”

I was livid when I received this email. Lori is helping people from her community take control of their financial future, and the banker is thrilled to charge them higher fees because of a lower credit score. How are hardworking Americans ever supposed to get back on their feet when their banks are ripping them off?

And this happens all of the time. Every single day—every single hour and probably every single minute—a banker neglects to tell a customer about the easy steps people can take to fix a bad credit score.

Instead of telling the truth about how credit scores affect you, banks across the country are letting their customers pay an arm and a leg in interest rates.

For instance, the banker Lori met with isn’t telling her that the difference between a 630 credit score and a 720 credit score is $63,720 over the course of a 30-year loan on a $216,000 mortgage.

The bank is deceiving its customers to the tune of $63,720!

I wrote 7 Steps to a 720 Credit Score because I wanted to help my mortgage clients learn how to build credit and lower their interest payments. Then I decided I wanted to spread the word about how credit scores affect you. I went to bank after bank, telling them I would give them access to my book so that their clients could how to raise their credit scores and negotiate lower interest rates.

Guess how many banks signed up.

Not one. Why would they do the right thing when they could pocket $63,720?

This is so typical of what happens every day. While the “little guy” struggles to get his head above water, the government is busy bailing out big business because they are “too big to fail.” And these very same businesses turn around and lie to their customers. This is flat-out unfair and wrong.

Learn how credit scores affect you, and stop the banks from stealing more of your hard-earned money. Download The 35 Things Your Bank Doesn’t Want You to Know About Credit.

Tags: banking scam, credit score

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Quiz Answers: Test Your Credit Smarts!

October 7th, 2010

I recently wrote a guest column to test your knowledge of the credit-scoring systems. Be sure to take this quiz, and then return here to learn details about the answers:

1. Becoming a cash-only citizen is the best thing you can do to repair credit after a bankruptcy, foreclosure, or other financial disaster.

Answer: False (B).

If you have a financial disaster, the worst thing you can do to your credit score is stop using credit. The credit-scoring bureaus need proof that you have turned over a new leaf. Become a cash-only citizen gives them no information. They will assume the worst, and your bad credit will not improve. Learn how to increase your credit score after a bankruptcy or foreclosure.

2. Five factors determine your credit score. Which is the most important?

Answer: Payment history (C).

The most important part of your credit score is your payment history. In fact, 35 percent of your three-digit score is determined by this number. The more recent the activity, the bigger the impact it will have on your credit score.

3. You will hurt your credit score if you request your credit report.

Answer: False (B)

Though credit inquiries count for approximately 10 percent of your score, this component only looks at the inquiries lenders make into your score for the purpose of determining whether to extend a loan or credit card offer to you. You will never hurt your credit score by pulling your own credit report. This bears repeating. You will never hurt your credit score by pulling your own credit report. You could pull it every single day, and your score would not drop a single point.

Be sure, though, that you pull your report from www.720FicoScore.com. Otherwise, you will get your consumer score instead of your FICO score. And since no lender will ever look at your consumer score, this will be useless.

4. Approximately how many people have errors on their credit reports?

Answer: 80 percent (C)

I know it is hard to believe, but about 80 percent of people have errors on their credit reports. And about a quarter of the errors are serious enough to cause you to lose a loan or job opportunity!

Be sure to get all the forms and worksheets you need to correct these errors and fix your credit score.

5. When computing your credit score, the credit-scoring bureaus ignore your salary.

Answer: True (B)

The formula that determines a person’s credit score does not consider salary. An unemployed person can have a great credit score, and a multi-millionaire can have a terrible credit score. Salary is simply not considered. The credit bureaus know that a more important indicator of a person’s creditworthiness is his or her ability to repay loans as promised.

That said, a lender might ask for your salary as a component of determining your creditworthiness.

6. Which of the following statements is true?

Answer: The maximum balance you carry on your credit card should never exceed 30 percent. (C)

About 30 percent of your credit score is based on something called a “utilization rate,” which is basically your balance on each credit card expressed as a percentage of the limit. If your limit is $4000, and your balance is $1000, you have a 25 percent utilization rate.

Credit-scoring bureaus like low utilization rates. Ideally, you should keep your utilization rate below 30 percent month-round. Paying your bill down to 30 percent at the close of the billing cycle is not sufficient. You must keep a low balance at all times to reap the rewards of a high credit score.

7. If you are married, your spouse’s credit history will be merged with your credit history.

Answer: False (B)

If you are married, you and your spouse will have separate credit profiles. Jointly held credit cards and loan accounts will be reflected on both credit reports. And guess what? I don’t think you should have joint accounts, if at all possible. Be sure to read my article about marriage and credit to learn more!

8. How many credit cards should you have?

Answer: Between three and five. (C)

The credit-scoring models exist to answer one question: What is the likelihood that this borrower will be more than 90 days later within the next 24 months? A low credit score indicates a high likelihood, and a low credit score indicates a high likelihood.

Credit-scoring models are able to calculate these scores by examining a person’s behavior. If you have too few credit cards, they do not have enough information to tell whether you can juggle multiple accounts. If you have too many accounts, they know that you might overextend yourself at any time.

Either way, they think, “Better safe than sorry,” assigning you a low credit score.

In the words of Goldilocks, three to five is just right!

If you need to open new credit cards and you have bad credit, click here to apply for credit cards for people with bad credit. If you have good credit, click here to apply for credit cards for people with good credit.

9. When a retail store clerk says you will save 10 or 15 percent on today’s purchases by applying for a retail-specific credit card, you should jump at the chance!

Answer: False (B)

Inevitably, the interest you pay on these credit cards will outweigh your one-time savings. As well, you will likely make purchases you otherwise would have not bought, simply because you have a credit card. And you will add an inquiry to your credit score.

And because you should only have three to five credit cards, what is the sense in having one that can’t be used everywhere?

10. What type of credit will always hurt your credit score?

Answer: Buy-now-pay-nothing-for-six-months loans. (C)

Buy now pay later loans hurt your credit score when they postpone payments for more than one billing cycle. For instance, you might buy a couch, and pay nothing for six months.

The credit-scoring models frown upon these loans because they suggest that you are in a financial bind, and that you might be overly optimistic about your future earning potential. The credit-scoring bureaus make the assumption that people who apply for these loans cannot afford to make the payments now. Therefore, the credit-scoring bureaus assume they will have a hard time making the payments later.

Tags: credit score

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How to Fix a Bad Credit Score the Easy Way

October 6th, 2010

People who have fallen onto tough financial times always want to know how to fix a bad credit score. In their attempt to learn how to build credit, they will spend thousands of dollars on credit repair services that promise to wipe their credit reports clean of all errors. Some people even try to create a new credit identity, as if they can sweep past errors under the rug.

The big secret, though, is that most of these services do not work. At best, these credit “repair” services will only temporarily suppress credit problems by using illegal methods to briefly suspend errors from your report—errors that will resurface only after the company has walked away with your dollars. At worst, they will expose you to lawsuits by using illegal methods of attempting to remove delinquent information from your credit report.

The good news is that there are tons of ways to fix your credit score that are both effective and legal. If you want to learn how to fix a bad credit score, keep these two components in mind:

How to Fix a Bad Credit Score, Rule #1: Be strategic.

As you can tell, I am not a fan of credit repair strategies that purport to increase your credit score by surreptitious methods. However, there are legal and effective strategies you can use to raise your credit score fast:

1. Build your credit score fast by adding yourself as an authorized user to a family member’s credit card, so long as it is in good standing.

2. One of the fastest ways to build credit is to transfer your credit card balances to your spouse.

3. Read 7 Steps to a 720 Credit Score, where you will learn more strategies for building a credit score.

How to Fix a Bad Credit Score, Rule #2: Focus on current behavior.

Think of it from the credit bureaus’ perspective. Wouldn’t you be much more impressed with someone who positively changed his behavior than someone who tried to weasel out of past mistakes? Instead of arguing with the credit-scoring bureaus about all of your late payments, try taking a few simple but effective ways to let the credit-scoring bureaus know you have changed your habits.

This strategy works because credit-scoring bureaus place more weight on current behavior than on past behavior. If you made a mess of your credit score two years ago, the credit-scoring bureaus will pay less attention to this if you are making smart decisions today. This means that you should:

Pay your bills on time.
Keep your credit card balances as low as you can – preferably below 30 percent.
Keep three to five credit cards active. Use them at least once a month, but pay your balances as much as possible each month.
Open new lines of credit after a financial disaster, like bankruptcy or foreclosure. The credit-scoring bureaus need proof that you can manage several lines of credit. If you wipe your hands of credit, they will not have this proof, and your credit score will not increase. Your bad credit score will increase if you have between three and five credit cards, as well as an installment loan, all in good standing. Bear in mind that your credit score will initially drop upon opening a new line of credit. But after six months of timely payments, it will begin to increase.

So here’s the big secret: If you want to know how to fix a bad credit score, don’t turn to credit repair companies that make promises that seem too good to be true. Repairing a credit score is simple, but it cannot be achieved with the wave of a wand.

Tags: bad credit, credit score

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