If you’ve been juggling a monthly student loan payment with a credit card balance, you might have reasonably wondered at some point how exactly all that debt is affecting your credit. Debt obviously plays a significant role in your credit picture—how much of it you have and how you repay it are two major factors that affect your FICO® Scores, the credit scores used by 90% of top lenders. But how different types of loans and debt contribute to your scores isn’t readily apparent. Let’s clear up some of that confusion: Here are a couple important differences between how student loan debt and credit card debt can affect your credit.
- A large student loan balance impacts your credit less than a large credit card balance
30% of your FICO® Scores are determined by the total amount you owe across all credit accounts—student loans, credit cards, auto loans, etc. If, say, you owe $80,000 in student loan debt and have another $5,000 of debt you’re carrying on a credit card from month to month, your total account balance of $85,000 will be factored into your scores.
But your FICO Scores consider that $5,000 credit card balance differently than the $80,000 in student loan debt. Student loan debt is a type of installment debt, where you pay back a fixed loan amount on a predetermined payment schedule. Credit card debt is a type of revolving debt, where your payments are determined by how much of your available credit you’re using.
The difference between how your FICO Scores treat installment debt and revolving debt mainly boils down to what’s called your “credit utilization ratio”—how much of your available credit you’re using. If your $5,000 balance is on an account with a $6,000 credit limit (≈ 83% utilization), then you’re inching closer to maxing out your accounts, a potential red flag for any lenders evaluating your credit. If, on the other hand, your $5,000 balance comprises just 10% of your total available credit of $50,000 (your total available credit can span multiple accounts), then your credit utilization is in good shape.
In contrast, a high installment-loan debt load doesn’t preclude you from high FICO Scores. In fact, establishing a pattern of responsibly paying down an installment loan over time can help raise your scores.
The takeaway here is that if you’re utilizing a large percentage of your available credit, focusing on paying down your credit card debt could have a more dramatic positive impact on your scores than paying down a larger-than-usual chunk of your student loans. It’s important to remember, however, that making at least the minimum payment on time every month is equally crucial for student loans and credit cards, since payment history makes up the largest portion of your FICO Scores—35%.
- Applying for new credit cards impacts your credit more than rate shopping for a student loan
It’s not uncommon for student-loan seekers to approach several lenders to shop around for the best loan rates before settling on one. Shopping around for the best student loan rates also means authorizing potential lenders to pull your credit reports and scores. These credit inquiries stay on your credit reports for two years and could hurt your FICO® Scores (though FICO Scores only consider inquiries made within the past year).
But FICO Scores don’t treat all credit inquiries the same. Inquiries triggered by loan applications that commonly involve rate shopping—such as student loans—factor into your FICO Scores as a single inquiry if they fall under a typical shopping period (14 days – 45 days depending on the scoring model).
This special rate-shopping logic doesn’t extend to credit cards, though. Applying for three new credit cards will trigger three individual hard inquiries, each of which will stay on your credit reports for two years and affect your FICO Scores for one year. Whether the effect is minor or significant depends on the rest of your credit profile. For instance, if you have a thin credit file with a short history and only one or two accounts in good standing, your FICO Scores will likely take a bigger hit from each inquiry.
If you’re planning to apply for credit—whether it’s a new credit card or a mortgage—it helps to take into consideration how long inquiries can stay on your reports and hurt your scores. Because FICO Scores only consider inquiries on your reports from the past year, you can time applications for new credit in a way that avoids the negative effects of hard inquiries.
For example, let’s say you’ve had your eye on a few rewards credit cards but also plan on applying for a business loan within a year or two. It might make sense to apply for those rewards cards all at once first, so that by the time you’re ready to apply for the business loan, enough time has passed (a year, to be exact) for those inquiries on your credit report to not affect your FICO Scores.
Have any more credit-related questions? We’d love to hear from you in the comments! Or you can head over to myFICO’s credit education pages.