Refinancing student loans can be a smart move for many borrowers, especially those who have improved their credit score since taking out their original loan. By securing a better rate, you could save hundreds or thousands of dollars in interest over time.
Refinancing also shouldn’t hurt your credit score beyond temporarily docking a few points when you apply. In fact, refinancing could actually improve your score if it helps you stay current with payments.
Reasons why your credit score might drop after refinancing
There are a few circumstances where refinancing could be detrimental to your credit score. In most cases, however, the impact is temporary and relatively small.
For example, refinancing requires a hard credit check, which can knock a few points off your credit score. If you apply with several lenders over a long time period — say, over a period of two months — you could also end up with multiple inquiries impacting your score.
Additionally, when you refinance, you’ll replace an old credit account with a new one. This reduces the average age of your accounts, which can have a small negative effect. That said, your length of credit history makes up only 15 percent of your FICO credit score.
The biggest impact to your credit score is your payment history. If you’re overambitious with your monthly payment when you refinance and you miss a payment, your credit score could drop significantly. This is because your payment history makes up 35 percent of your FICO score.
Reasons why refinancing could help your credit score
If you manage your money right, refinancing could improve your credit. This is particularly true if refinancing helps you make your monthly payments.
Paying your loans by the due date proves that you are a responsible borrower, and those timely payments will translate to a higher credit score. If you were struggling to make payments before, refinancing could be a good way to lower your monthly bill and ensure that you never miss a payment.
Set up reminders in your phone or calendar to make your payment. If you want to simplify the process, you can also automate your student loan payments. Some lenders even provide a discount for setting up autopay.
How to keep refinancing a student loan from hurting your credit score
If you’re worried about your credit score, there are some steps to mitigate some of the potential impact refinancing can have:
- Take advantage of prequalification tools: Most student loan refinancing companies allow you to get prequalified with a rate quote with no hard credit check. The information lenders get from a soft credit pull is usually enough to give you a good idea of what your loan terms will be, so you don’t necessarily have to submit multiple official applications.
- Finish your comparison process quickly: If you do decide to apply with multiple lenders to see what their final offers look like, FICO will combine all of your hard inquiries into one for scoring purposes if you complete the process within 45 days for its newer scoring models and 14 days for its older models.
- Stay current on payments: It can take some time for the refinance process to be completed, so keep making payments on your old loans until the balance has been zeroed out. Then make it a priority to set up automatic payments on your new account as quickly as possible to avoid missing one.
- Keep using other credit: Student loans alone may not be enough to establish a solid credit history, so look for other opportunities, such as credit cards, auto loans and a mortgage, to help you continue to build your credit history over time.
Alternatives to student loan refinancing
While student loan refinancing can be a strategic move for saving money on interest and getting out of debt, it’s not for everyone. If you can’t qualify for a lower interest rate, there might not be much point in refinancing.
What’s more, if you refinance federal student loans, you’ll lose access to certain benefits, including student loan forgiveness, some loan repayment assistance programs, income-driven repayment plans and more.
If you’re not sure that refinancing is right for you, here are a few alternatives to consider:
- Consolidate your federal student loans: With student loans, consolidation typically refers to the U.S. Department of Education’s Federal Direct Loan Consolidation program. Consolidation lets you combine multiple federal loans into one to simplify your repayment plan. Just keep in mind that your new interest rate will be the weighted-average interest rate of the original loans rounded up to the nearest one-eighth percent, so you won’t save money this way.
- Apply for forgiveness: The federal government offers a few different student loan forgiveness programs. Specifically, you may qualify if you work for a government agency or an eligible not-for-profit organization or as a teacher.
- Request student loan repayment assistance: If you have federal student loans, there is a long list of loan repayment assistance programs (LRAPs), primarily offered by government agencies and states. That said, many private employers have begun offering repayment assistance as an employee benefit. These aren’t forgiveness programs, but in some cases, you may be able to get tens of thousands of dollars in assistance.
- Get on an income-driven repayment plan: If you’re thinking about refinancing because you can’t afford your monthly payments, federal student loans are eligible for one or more income-driven repayment plans, which can cut your monthly payment to 10 percent to 20 percent of your discretionary income. They’ll also extend your repayment term to 20 or 25 years, after which any remaining balance you have is forgiven.
If you’re thinking about refinancing or other avenues to pay off your student loans more effectively, take your time to research all of your options to determine which one works best for you.